UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
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☒ |
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended June 30, 2021
OR
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☐ |
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
Commission File Number: 001-35489
HOWARD BANCORP, INC.
(Exact name of registrant as specified in its charter)
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Maryland |
20-3735949 |
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(State or other jurisdiction of incorporation or organization) |
(I.R.S. Employer Identification No.) |
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3301 Boston Street, Baltimore, MD |
21224 |
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(Address of principal executive offices) |
(Zip Code) |
(410) 750-0020
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
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Title of each class: |
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Trading Symbol |
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Name of each exchange on which registered: |
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Common Stock, par value $0.01 per share |
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HBMD |
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The Nasdaq Stock Market LLC |
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
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Large accelerated filer ☐ |
Accelerated filer ☒ |
Non-accelerated filer ☐ |
Smaller reporting company ☒ |
Emerging growth company ☐ |
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒
The number of shares of common stock outstanding as of August 6, 2021.
Common Stock, $0.01 par value – 18,810,586 shares
HOWARD BANCORP, INC.
TABLE OF CONTENTS
CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
This Quarterly Report on Form 10-Q (this “report”) contains “forward-looking statements,” as that phrase is defined in the Private Securities Litigation Reform Act of 1995, which can be identified by the use of words such as “estimate,” “project,” “believe,” “goal,” “intend,” “anticipate,” “plan,” “seek,” “expect,” “will,” “may,” “should,” “could” and words of similar meaning. You can also identify them by the fact that they do not relate strictly to historical or current facts. These forward-looking statements include, but are not limited to, statements related to our proposed merger with F.N.B. Corporation (“F.N.B.”), including the expected timing to close the transaction, statements of our goals, intentions and expectations, including the expected impact of COVID-19 on our operations, our expectations related to requests for payment deferrals on loans, our expectations that many of our unfunded commitments will expire without being drawn, and statements regarding our business plan and strategies. Because forward-looking statements relate to the future, they are subject to inherent uncertainties, risks and changes in circumstances that are difficult to predict and may be outside of the Company’s control. Actual events and results may differ materially from those described in such forward-looking statements due to numerous factors, including:
| ● | the continuing impact of COVID-19 and its variants on our business, including the impact of the actions taken by governmental authorities to try and contain the virus or address the impact of the virus on the United States economy, and the resulting effect of these items on our operations, liquidity and capital position, and on the financial condition of our borrowers and other customers; |
| ● | the failure to obtain necessary regulatory approvals for our proposed merger with F.N.B. (and the risk that such approvals may result in the imposition of conditions that could adversely affect the combined company or the expected benefits of the transaction), and approval of our stockholders or to satisfy any of the other conditions to the merger on a timely basis or at all; |
| ● | the occurrence of any event, change or other circumstances that could give rise to the right of the Company, F.N.B. or both to terminate the merger agreement; |
| ● | the possibility that the anticipated benefits of the proposed merger with F.N.B., including anticipated cost savings and strategic gains, are not realized when expected or at all, including as a result of the impact of, or problems arising from, the integration of the two companies or as a result of the strength of the economy, competitive factors in the areas where Howard and F.N.B. do business, or as a result of other unexpected factors or events; |
| ● | diversion of management’s attention from ongoing business operations and opportunities as a result of the proposed merger with F.N.B.; |
| ● | potential adverse reactions or changes to business or employee relationships, including those resulting from the announcement or completion of the proposed merger with F.N.B.; |
| ● | the outcome of any legal proceedings that may be instituted against the Company or F.N.B. as a result of the proposed merger with F.N.B.; |
F.N.B.’s ability to complete the acquisition and integration of the Company and Howard Bank successfully, and other factors that may affect ours or F.N.B.’s future results;
| ● | negative economic conditions that adversely affect the economy, real estate values, the job market and other factors nationally and in our market area, in each case that may affect our liquidity and the performance of our loan portfolio; |
| ● | any negative perception of our reputation or financial strength; |
| ● | competition among depository and other financial institutions; |
| ● | changes in U.S. monetary policy, the level and volatility of interest rates, the capital markets and other market conditions that may affect, among other things, our liquidity and the value of our assets and liabilities; |
| ● | changes in laws or government regulations or policies affecting financial institutions, including as a result of the new presidential administration and Democratic control of Congress; |
| ● | the composition of our management team and our ability to attract and retain key personnel; |
| ● | our ability to enter new markets successfully and capitalize on growth opportunities, and to otherwise implement our growth strategy; |
| ● | material weaknesses in our internal control over financial reporting; |
| ● | our ability to successfully integrate acquired entities, if any; |
| ● | our inability to replace income lost from exiting our mortgage banking activities with new revenues; |
| ● | changes in consumer spending, borrowing and savings habits; |
1
| ● | changes in accounting policies and practices, as may be adopted by the bank regulatory agencies, the Financial Accounting Standards Board, the U.S. Securities and Exchange Commission and the Public Company Accounting Oversight Board; |
| ● | changes in our organization, compensation and benefit plans; |
| ● | negative reactions to our branch closures by our customers, employees and other counterparties; |
| ● | execution risk related to the opening of new branches, including increased expenses; |
| ● | our ability to maintain the asset quality of our investment portfolios and the anticipated recovery and collection of unrealized losses on securities available for sale; |
| ● | impairment of goodwill, other intangible assets or deferred tax assets; |
| ● | changes in tax laws and policies; |
| ● | our ability to continue our expected focus on commercial customers as well as maintaining our residential mortgage loan portfolio; |
| ● | changes in our expected occupancy and equipment expenses; |
| ● | changes to our allowance for loan and lease losses, and the adequacy thereof; |
| ● | our ability to maintain adequate liquidity levels and future sources of liquidity; |
| ● | our ability to retain a large portion of maturing certificates of deposit; |
| ● | the impact on us of recent changes to accounting standards; |
| ● | the impact of future cash requirements relating to commitments to extend credit; |
| ● | risks associated with actual or potential litigation or investigations by customers, regulatory agencies or others; |
| ● | the risk of changes in technology and customer preferences; |
| ● | the impact of any material failure or breach in our infrastructure or the infrastructure of third parties on which we rely as a result of cyber-attacks; |
| ● | the impact of interest rate changes on our net interest income; |
| ● | the adverse effects of events beyond our control that may have a destabilizing effect on financial markets and the economy, such as epidemics and pandemics (including COVID-19), war or terrorist activities, disruptions in our customer's supply chains, disruptions in transportation, essential utility outages, or trade disputes and related tariffs; |
| ● | other economic, competitive, governmental, regulatory, technological, and geopolitical factors affecting our operations, pricing, and services; and |
| ● | each of the factors and risks under the heading “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2020, and in subsequent filings we make with the SEC. |
Because of these and a wide variety of other uncertainties, our actual future results may be materially different from the results indicated by these forward-looking statements. You should not put undue reliance on any forward-looking statements. These forward-looking statements are based on our current beliefs and expectations and are inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond our control. In addition, these forward-looking statements are subject to assumptions with respect to future business strategies and decisions that are subject to change. We are under no duty to and do not undertake any obligation to update any forward-looking statements after the date of this report, except as required by law.
2
PART I
Item 1. Financial Statements
Howard Bancorp, Inc. and Subsidiary
Condensed Consolidated Balance Sheets - Unaudited
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June 30, |
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December 31, |
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(dollars in thousands, except share data) |
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2021 |
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2020 |
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ASSETS |
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Cash and due from banks |
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$ |
12,681 |
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$ |
9,415 |
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Interest-bearing deposits with banks |
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59,754 |
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65,204 |
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Total cash and cash equivalents |
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72,435 |
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74,619 |
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Securities available for sale, at fair value |
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367,873 |
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375,397 |
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Securities held to maturity, at amortized cost |
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6,000 |
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7,250 |
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Nonmarketable equity securities |
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8,956 |
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10,637 |
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Loans and leases, net of unearned income |
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1,942,507 |
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1,865,961 |
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Allowance for loan and lease losses |
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(18,288) |
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(19,162) |
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Net loans and leases |
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1,924,219 |
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1,846,799 |
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Bank premises and equipment, net |
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40,290 |
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41,142 |
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Goodwill |
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31,449 |
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31,449 |
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Core deposit intangible |
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4,586 |
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5,795 |
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Bank owned life insurance |
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78,443 |
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77,597 |
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Other real estate owned |
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629 |
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743 |
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Deferred tax assets, net |
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28,324 |
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31,254 |
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Interest receivable and other assets |
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36,337 |
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35,309 |
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Total assets |
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$ |
2,599,541 |
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$ |
2,537,991 |
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LIABILITIES |
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Noninterest-bearing deposits |
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$ |
778,388 |
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$ |
676,801 |
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Interest-bearing deposits |
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1,247,169 |
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1,298,613 |
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Total deposits |
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2,025,557 |
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1,975,414 |
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FHLB advances |
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205,000 |
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200,000 |
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Customer repurchase agreements and other borrowings |
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13,436 |
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13,634 |
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Subordinated debt |
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28,690 |
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28,437 |
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Total borrowings |
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247,126 |
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242,071 |
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Accrued expenses and other liabilities |
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23,595 |
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25,874 |
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Total liabilities |
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2,296,278 |
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2,243,359 |
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COMMITMENTS AND CONTINGENCIES |
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STOCKHOLDERS’ EQUITY |
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Common stock - par value of $0.01 authorized 20,000,000 shares; issued and outstanding 18,794,586 shares at June 30, 2021 and 18,744,710 at December 31, 2020 |
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188 |
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187 |
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Capital surplus |
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271,086 |
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270,591 |
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Retained earnings |
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31,825 |
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18,167 |
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Accumulated other comprehensive income |
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164 |
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5,687 |
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Total stockholders’ equity |
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303,263 |
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294,632 |
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Total liabilities and stockholders’ equity |
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$ |
2,599,541 |
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$ |
2,537,991 |
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The accompanying notes are an integral part of these Unaudited Condensed Consolidated Financial Statements.
3
Condensed Consolidated Statements of Income - Unaudited
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For the Six Months Ended |
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For the Three Months Ended |
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||||||||
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June 30, |
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June 30, |
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(dollars in thousands, except per share data) |
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2021 |
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2020 |
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2021 |
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2020 |
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INTEREST INCOME |
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Interest and fees on loans and leases |
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$ |
39,370 |
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$ |
39,518 |
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$ |
19,688 |
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$ |
19,540 |
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Interest and dividends on securities |
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|
3,235 |
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|
3,749 |
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|
1,688 |
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|
1,901 |
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Other interest income |
|
|
12 |
|
|
433 |
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|
6 |
|
|
33 |
|
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Total interest income |
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42,617 |
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43,700 |
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|
21,382 |
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|
21,474 |
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INTEREST EXPENSE |
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Deposits |
|
|
1,070 |
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|
5,593 |
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|
410 |
|
|
2,383 |
|
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FHLB advances |
|
|
884 |
|
|
1,532 |
|
|
443 |
|
|
506 |
|
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Customer repurchase agreements and other borrowings |
|
|
2 |
|
|
17 |
|
|
1 |
|
|
13 |
|
|
Subordinated debt |
|
|
891 |
|
|
913 |
|
|
446 |
|
|
452 |
|
|
Total interest expense |
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|
2,847 |
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|
8,055 |
|
|
1,300 |
|
|
3,354 |
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NET INTEREST INCOME |
|
|
39,770 |
|
|
35,645 |
|
|
20,082 |
|
|
18,120 |
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|
Provision for credit losses |
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|
1,000 |
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|
6,445 |
|
|
— |
|
|
3,000 |
|
|
Net interest income after provision for credit losses |
|
|
38,770 |
|
|
29,200 |
|
|
20,082 |
|
|
15,120 |
|
|
NONINTEREST INCOME |
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|
|
|
|
|
|
|
|
|
|
|
|
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Service charges on deposit accounts |
|
|
1,193 |
|
|
1,075 |
|
|
654 |
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|
432 |
|
|
Realized and unrealized gains on mortgage banking activity |
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|
— |
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|
1,036 |
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|
— |
|
|
— |
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Gain on the sale of securities |
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|
— |
|
|
3,044 |
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|
— |
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|
3,044 |
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Income from bank owned life insurance |
|
|
845 |
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|
886 |
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|
421 |
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|
441 |
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Loan related fees and service charges |
|
|
568 |
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|
755 |
|
|
271 |
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|
175 |
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Other operating income |
|
|
1,816 |
|
|
1,329 |
|
|
1,007 |
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|
667 |
|
|
Total noninterest income |
|
|
4,422 |
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|
8,125 |
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|
2,353 |
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|
4,759 |
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NONINTEREST EXPENSE |
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Compensation and benefits |
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14,065 |
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14,700 |
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7,143 |
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6,259 |
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Occupancy and equipment |
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2,643 |
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|
2,275 |
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|
1,318 |
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|
1,242 |
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Marketing and business development |
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|
638 |
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|
903 |
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|
341 |
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|
453 |
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Professional fees |
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1,543 |
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|
1,360 |
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|
809 |
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|
634 |
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Data processing fees |
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1,866 |
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|
1,776 |
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|
982 |
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|
849 |
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FDIC assessment |
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|
466 |
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|
397 |
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|
171 |
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|
236 |
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Other real estate owned |
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|
40 |
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|
346 |
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|
— |
|
|
268 |
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Loan production expense |
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|
335 |
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|
660 |
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|
181 |
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|
192 |
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Amortization of core deposit intangible |
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|
1,209 |
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|
1,379 |
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|
594 |
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|
680 |
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Goodwill impairment |
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— |
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|
34,500 |
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— |
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|
34,500 |
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Other operating expense |
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1,834 |
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|
3,891 |
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|
758 |
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|
2,315 |
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Total noninterest expense |
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|
24,639 |
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|
62,187 |
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|
12,297 |
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|
47,628 |
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INCOME (LOSS) BEFORE INCOME TAXES |
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|
18,553 |
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|
(24,862) |
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|
10,138 |
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|
(27,749) |
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|
Income tax expense |
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|
4,895 |
|
|
1,204 |
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|
2,682 |
|
|
1,660 |
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NET INCOME (LOSS) |
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$ |
13,658 |
|
$ |
(26,066) |
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$ |
7,456 |
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$ |
(29,409) |
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|
NET INCOME (LOSS) PER COMMON SHARE |
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|
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|
|
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|
|
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Basic |
|
$ |
0.73 |
|
$ |
(1.39) |
|
$ |
0.40 |
|
$ |
(1.57) |
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|
Diluted |
|
$ |
0.72 |
|
$ |
(1.39) |
|
$ |
0.40 |
|
$ |
(1.57) |
|
The accompanying notes are an integral part of these Unaudited Condensed Consolidated Financial Statements.
4
Condensed Consolidated Statements of Comprehensive Income (Loss) - Unaudited
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|
|
|
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|
|
|
|
|
|
|
|
|
Six Months Ended |
|
Three Months Ended |
|
||||||||
|
|
|
June 30, |
|
June 30, |
|
||||||||
|
(dollars in thousands) |
|
2021 |
|
2020 |
|
2021 |
|
2020 |
|
||||
|
Net income (loss) |
|
$ |
13,658 |
|
$ |
(26,066) |
|
$ |
7,456 |
|
$ |
(29,409) |
|
|
Other comprehensive income (loss): |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investments available for sale: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Reclassification adjustment for realized gains |
|
|
— |
|
|
(3,044) |
|
|
— |
|
|
(3,044) |
|
|
Related income tax |
|
|
— |
|
|
838 |
|
|
— |
|
|
838 |
|
|
Unrealized holding (losses) gains |
|
|
(7,574) |
|
|
4,841 |
|
|
4,088 |
|
|
(828) |
|
|
Related income tax benefit (expense) |
|
|
2,051 |
|
|
(1,332) |
|
|
(1,108) |
|
|
228 |
|
|
Comprehensive income (loss) |
|
$ |
8,135 |
|
$ |
(24,763) |
|
$ |
10,436 |
|
$ |
(32,215) |
|
The accompanying notes are an integral part of these Unaudited Condensed Consolidated Financial Statements.
5
Condensed Consolidated Statements of Changes in Stockholders’ Equity - Unaudited
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
other |
|
|
|
|
|
|
|
Number of |
|
Common |
|
Capital |
|
Retained |
|
comprehensive |
|
|
|
||||
|
(dollars in thousands, except share data) |
|
shares |
|
stock |
|
surplus |
|
earnings |
|
income |
|
Total |
|||||
|
Six Months Ended |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balances at December 31, 2019 |
|
19,066,913 |
|
$ |
191 |
|
$ |
276,156 |
|
$ |
35,158 |
|
$ |
2,643 |
|
$ |
314,148 |
|
Net loss |
|
— |
|
|
— |
|
|
— |
|
|
(26,066) |
|
|
— |
|
|
(26,066) |
|
Other comprehensive income |
|
— |
|
|
— |
|
|
— |
|
|
— |
|
|
1,303 |
|
|
1,303 |
|
Director stock awards |
|
8,151 |
|
|
— |
|
|
137 |
|
|
— |
|
|
— |
|
|
137 |
|
Employee stock purchase plan |
|
12,581 |
|
|
— |
|
|
195 |
|
|
— |
|
|
— |
|
|
195 |
|
Repurchased shares |
|
(372,801) |
|
|
(4) |
|
|
(6,673) |
|
|
— |
|
|
— |
|
|
(6,677) |
|
Stock-based compensation expense |
|
— |
|
|
— |
|
|
241 |
|
|
— |
|
|
— |
|
|
241 |
|
Vested restricted stock units |
|
834 |
|
|
— |
|
|
— |
|
|
— |
|
|
— |
|
|
— |
|
Balances at June 30, 2020 |
|
18,715,678 |
|
$ |
187 |
|
$ |
270,056 |
|
$ |
9,092 |
|
$ |
3,946 |
|
$ |
283,281 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balances at December 31, 2020 |
|
18,744,710 |
|
$ |
187 |
|
$ |
270,591 |
|
$ |
18,167 |
|
$ |
5,687 |
|
$ |
294,632 |
|
Net income |
|
— |
|
|
— |
|
|
— |
|
|
13,658 |
|
|
— |
|
|
13,658 |
|
Other comprehensive loss |
|
— |
|
|
— |
|
|
— |
|
|
— |
|
|
(5,523) |
|
|
(5,523) |
|
Director stock awards |
|
12,408 |
|
|
— |
|
|
150 |
|
|
— |
|
|
— |
|
|
150 |
|
Employee stock purchase plan |
|
10,587 |
|
|
1 |
|
|
108 |
|
|
— |
|
|
— |
|
|
109 |
|
Stock-based compensation expense |
|
— |
|
|
— |
|
|
322 |
|
|
— |
|
|
— |
|
|
322 |
|
Vested restricted stock units, net of shares held for taxes |
|
26,881 |
|
|
— |
|
|
(85) |
|
|
— |
|
|
— |
|
|
(85) |
|
Balances at June 30, 2021 |
|
18,794,586 |
|
$ |
188 |
|
$ |
271,086 |
|
$ |
31,825 |
|
$ |
164 |
|
$ |
303,263 |
The accompanying notes are an integral part of these Unaudited Condensed Consolidated Financial Statements.
6
Condensed Consolidated Statements of Cash Flows - Unaudited
|
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended |
|
||||
|
|
|
June 30, |
|
||||
|
(in thousands) |
|
2021 |
|
2020 |
|
||
|
CASH FLOWS FROM OPERATING ACTIVITIES: |
|
|
|
|
|
|
|
|
Net income (loss) |
|
$ |
13,658 |
|
$ |
(26,066) |
|
|
Adjustments to reconcile net income (loss) to net cash from operating activities: |
|
|
|
|
|
|
|
|
Provision for credit losses |
|
|
1,000 |
|
|
6,445 |
|
|
Deferred income tax |
|
|
4,982 |
|
|
481 |
|
|
Provision for other real estate owned |
|
|
— |
|
|
257 |
|
|
Depreciation and amortization |
|
|
1,356 |
|
|
1,108 |
|
|
Stock-based compensation |
|
|
387 |
|
|
378 |
|
|
Net accretion of discount on purchased loans |
|
|
(934) |
|
|
(590) |
|
|
Gain on sale of securities |
|
|
— |
|
|
(3,044) |
|
|
Net amortization of intangible asset |
|
|
1,209 |
|
|
1,379 |
|
|
Goodwill impairment |
|
|
— |
|
|
34,500 |
|
|
Loans originated for sale |
|
|
— |
|
|
(79,847) |
|
|
Proceeds from sale of loans originated for sale |
|
|
— |
|
|
111,593 |
|
|
Realized and unrealized gains on mortgage banking activity |
|
|
— |
|
|
(1,036) |
|
|
Loss on sale of other real estate owned, net |
|
|
25 |
|
|
28 |
|
|
Cash surrender value of bank owned life insurance |
|
|
(845) |
|
|
(886) |
|
|
Decrease in interest receivable and other assets |
|
|
649 |
|
|
4,040 |
|
|
Decrease in accrued expenses and other liabilities |
|
|
(2,278) |
|
|
(1,666) |
|
|
Other, net |
|
|
41 |
|
|
31 |
|
|
Net cash provided by operating activities |
|
|
19,250 |
|
|
47,105 |
|
|
CASH FLOWS FROM INVESTING ACTIVITIES: |
|
|
|
|
|
|
|
|
Purchases of investment securities |
|
|
(54,628) |
|
|
(179,695) |
|
|
Proceeds from sales, maturities and calls of investment securities |
|
|
55,788 |
|
|
130,815 |
|
|
Net increase in loans and leases outstanding |
|
|
(77,486) |
|
|
(153,067) |
|
|
Proceeds from the sale of other real estate owned |
|
|
89 |
|
|
727 |
|
|
Purchase of premises and equipment |
|
|
(251) |
|
|
(69) |
|
|
Proceeds from the sale of premises and equipment |
|
|
— |
|
|
743 |
|
|
Net cash used in investing activities |
|
|
(76,488) |
|
|
(200,546) |
|
|
CASH FLOWS FROM FINANCING ACTIVITIES: |
|
|
|
|
|
|
|
|
Net increase in deposits |
|
|
50,143 |
|
|
116,309 |
|
|
Net (decrease) increase in customer repurchase agreements and other borrowings |
|
|
(198) |
|
|
31,707 |
|
|
Net increase (decrease) in FHLB advances |
|
|
5,000 |
|
|
(39,000) |
|
|
Proceeds from issuance of common stock, net of cost |
|
|
109 |
|
|
195 |
|
|
Repurchase of common stock |
|
|
— |
|
|
(6,677) |
|
|
Net cash provided by financing activities |
|
|
55,054 |
|
|
102,534 |
|
|
|
|
|
|
|
|
|
|
|
Net decrease in cash and cash equivalents |
|
|
(2,184) |
|
|
(50,907) |
|
|
Cash and cash equivalents at beginning of period |
|
|
74,619 |
|
|
109,977 |
|
|
Cash and cash equivalents at end of period |
|
$ |
72,435 |
|
$ |
59,070 |
|
|
SUPPLEMENTAL INFORMATION |
|
|
|
|
|
|
|
|
Cash payments for interest |
|
$ |
2,955 |
|
$ |
8,103 |
|
|
Cash payments for income taxes |
|
|
2,012 |
|
|
15 |
|
|
Transferred from loans to other real estate owned |
|
|
— |
|
|
51 |
|
|
Cash payments for operating leases |
|
|
318 |
|
|
441 |
|
|
Lease liabilities arising from obtaining right of use assets (see Note 7) |
|
|
— |
|
|
2,011 |
|
|
Liability for unsettled securities purchases |
|
|
— |
|
|
10,238 |
|
The accompanying notes are an integral part of these Unaudited Condensed Consolidated Financial Statements.
7
Notes to the Condensed Consolidated Financial Statements - Unaudited
Note 1: Summary of Significant Accounting Policies
Nature of Operations
Howard Bancorp, Inc. (“Bancorp” or the “Company”) was incorporated in April 2005 under the laws of the State of Maryland. On December 15, 2005, Bancorp acquired all of the stock of Howard Bank (the “Bank”) pursuant to the Plan of Reorganization approved by the stockholders of the Bank and by federal and state regulatory agencies. Each share of the Bank’s common stock was converted into two shares of Bancorp common stock effected by the filing of Articles of Exchange on that date, and the stockholders of the Bank became the stockholders of Bancorp. Bancorp is now a bank holding company registered under the Bank Holding Company Act of 1956, with a single bank subsidiary, Howard Bank, which operates as a state trust company with commercial banking powers regulated by the Maryland Office of the Commissioner of Financial Regulation (the “Commissioner”).
The Bank has nine subsidiaries; six were formed to hold foreclosed real estate (three of which are currently inactive), two own and manage real estate used for corporate purposes, and one holds historic tax credit investments.
The Company is a diversified financial services company providing commercial banking and consumer finance through banking branches, the internet and other distribution channels to businesses, business owners, professionals and other consumers located primarily in the Greater Baltimore – Washington Metropolitan Area.
These statements should be read in conjunction with the financial statements and accompanying notes included in the Company’s 2020 Annual Report on Form 10-K as filed with the Securities and Exchange Commission (“SEC”) on March 16, 2021. There have been no significant changes to the Company’s accounting policies as disclosed in the 2020 Annual Report on Form 10-K.
The following is a description of the Company’s significant accounting policies.
Basis of Presentation
The accounting and reporting policies of the Company conform to accounting principles generally accepted in the United States of America (“GAAP”) and prevailing practices within the financial services industry for financial information. The Company has one reportable segment, “Community Banking.”
Principles of Consolidation
The Unaudited Condensed Consolidated Financial Statements include the accounts of Bancorp, the Bank and the Bank’s subsidiaries. All significant intercompany accounts and transactions have been eliminated.
Use of Estimates
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant changes in the near-term relate to the determination of the allowance for loan and lease losses, the valuation of goodwill and deferred tax assets, and other-than-temporary impairment of investment securities.
8
Allowance for Loan and Lease Losses
The allowance for loan and lease losses (the “allowance”) is maintained at a level believed adequate by management to absorb probable incurred losses inherent in the loan and lease portfolio and is based on the size and current risk characteristics of the loan and lease portfolio, an assessment of individual problem loans and leases, actual loss experience, current economic events in specific industries and geographic areas including unemployment levels and other pertinent factors including general economic conditions. Determination of the allowance is inherently subjective as it requires significant estimates, including the amounts and timing of expected future cash flows on impaired loans and leases, estimated losses on pools of homogenous loans and leases based on historical loss experience and consideration of economic trends, all of which may be susceptible to significant change. Loan and lease losses are charged off against the allowance, while recoveries of amounts previously charged off are credited to the allowance. A provision for credit losses is charged to operations based on management’s periodic evaluation of the factors previously mentioned, as well as other pertinent factors. Evaluations are conducted at least quarterly and more often if deemed necessary.
The allowance consists of a specific component and a nonspecific component. The components of the allowance represent an estimation performed pursuant to either the Financial Accounting Standards Board’s (the “FASB”) Accounting Standards Codification (“ASC”) Topic 450 Contingencies or ASC Topic 310 Receivables. The specific component of the allowance reflects estimated incurred losses resulting from an analysis developed through credit allocations for individual loans and leases. The credit allocations are based on a regular analysis of all loans and leases over a fixed-dollar amount where the internal credit rating is at or below a predetermined classification.
The nonspecific portion of the allowance is determined based on management’s assessment of general economic conditions, as well as economic factors in the individual markets in which the Company operates including the strength and timing of economic cycles and concerns over the effects of a prolonged economic downturn in the current cycle. This determination inherently involves a higher risk of uncertainty and considers current risk factors that may not have yet manifested themselves in the Bank’s historical loss factors used to determine the nonspecific component of the allowance, and it recognizes that knowledge of the portfolio may be incomplete. The Bank’s historic loss factors are based upon actual losses incurred by portfolio segment over the preceding 24-month period. In portfolio segments where no actual losses have been incurred within the most recent 24-month period, industry loss data for that portfolio segment, as provided by the Federal Deposit Insurance Corporation (“FDIC”), are utilized. In addition to historic loss factors, the Bank’s methodology for the allowance incorporates other risk factors that may be inherent within the portfolio segments. For each portfolio segment, in addition to the historic loss experience, the qualitative factors that are measured and monitored in the overall determination of the allowance include:
| ● | changes in lending policies, procedures, and practices; |
| ● | changes in international, national, state and local economic and business conditions and developments that affect the collectability of the portfolio, including the condition of various market segments; |
| ● | changes in the nature and volume of the loan portfolio; |
| ● | changes in the experience, ability and depth of the lending staff; |
| ● | changes in the volume and severity of past due, nonaccrual, and adversely classified loans; |
| ● | changes in the quality of our loan review system; |
| ● | changes in the value of underlying collateral for collateral-dependent loans; |
| ● | the existence of any concentrations of credit, and changes in the level of such concentrations; |
| ● | the effect of other external factors such as competition and legal and regulatory requirements; and |
| ● | any other factors that management considers relevant to the quality or performance of the loan portfolio. |
Each of these qualitative risk factors is measured based upon data generated either internally, or in the case of economic conditions utilizing independently provided data on items such as unemployment rates, commercial real estate vacancy rates, or other market data deemed relevant to the business conditions within the markets served.
9
The Company’s credit policies state that after all collection efforts have been exhausted, and the loan or lease is deemed to be a loss, then the remaining loan or lease balance will be charged to the Company’s established allowance. All loans and leases are evaluated for loss potential once it has been determined by the Watch Committee that the likelihood of repayment is in doubt. When a loan is past due for at least 90 days or a deterioration in debt service coverage ratio, guarantor liquidity, or loan-to-value ratio has occurred that would cause concern regarding the likelihood of the full repayment of principal and interest, and the loan or lease is deemed not to be well secured, the loan or lease would be moved to nonaccrual status and a specific reserve is established if the net realizable value is less than the principal value of the loan balance(s). Once the actual loss value has been determined, a charge-off against the allowance for the amount of the loss is taken. Each loss is evaluated on its specific facts regarding the appropriate timing to recognize the loss.
Goodwill, Other Intangible Assets and Long-Lived Assets
Goodwill represents the excess of the purchase price over the sum of the estimated fair values of tangible and identifiable intangible assets acquired less the estimated fair value of the liabilities assumed. Core deposit intangibles represent the estimated value of long-term deposit relationships acquired in a business combination. The core deposit intangible is amortized over the estimated useful lives of the long-term deposits acquired, and the remaining amounts of the core deposit intangible are periodically reviewed for impairment. Goodwill has an indefinite useful life and is evaluated for impairment annually or more frequently if events and circumstances indicate that the asset might be impaired. Long-lived assets are those that provide the Company with a future economic benefit beyond the current year or operating period. Long-lived assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset is greater than the fair value of the asset. Assets to be disposed of are reported at the lower of the cost or the fair value, less costs to sell.
Effective April 1, 2020, the Company adopted the FASB’s Accounting Standards Update (“ASU”) 2017-04, Intangibles - Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment, which simplifies the subsequent measurement of goodwill by eliminating Step 2 from the goodwill impairment test. The goodwill impairment test is performed by comparing the fair value of a reporting unit with its carrying amount. An impairment charge would be recognized for the amount by which the carrying amount exceeds the reporting unit's fair value, to the extent that the loss recognized does not exceed the amount of goodwill allocated to that reporting unit.
Management has determined that the Company has one reporting unit. The sudden and continuing decline in economic conditions triggered by the Coronavirus (“COVID-19”) pandemic in the first half of 2020 included a significant decline in stock market valuations and the stock price of the Company and peer banks. These events indicated that goodwill may be impaired and resulted in the Company performing a goodwill impairment assessment. Based on this assessment, the Company's estimated fair value was less than its book value, resulting in a goodwill impairment charge of $34.5 million recorded in the quarter ended June 30, 2020. Based on the annual impairment analysis, performed in the fourth quarter of 2020, the Company determined that there was not an impairment of the carrying value of either the goodwill or core deposit intangible at December 31, 2020. The Company is not aware of any events or circumstances since the completion of the annual impairment analysis that would impact the carrying value of either the goodwill or core deposit intangible at June 30, 2021.
Income Taxes
The Company uses the asset/liability method of accounting for income taxes. Under the asset/liability method, deferred tax assets and liabilities are determined based on differences between the financial statement carrying amounts and the tax bases of existing assets and liabilities (i.e., temporary differences) and are measured at the enacted rates that will be in effect when these differences reverse. As changes in tax laws or rates are enacted, deferred tax assets and liabilities are adjusted through the provision for income taxes. In addition, deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion or the entire deferred tax asset will not be realized. The Company does not have uncertain tax positions that are deemed material, and did not recognize any adjustments for unrecognized tax benefits. The Company’s policy is to recognize interest and penalties on income taxes in other noninterest expenses. The Company remains subject to examination by federal and state taxing authorities for income tax returns for the years ending after December 31, 2016.
10
Reclassifications
Certain reclassifications have been made to previously reported amounts, as necessary, to conform to the current period presentation. These reclassifications did not affect previously reported net income or total stockholders’ equity.
Recent Accounting Pronouncements
The FASB has issued ASU 2020-04, Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting. This ASU provides optional guidance for a limited period of time to ease the potential burden in accounting for (or recognizing the effects of) reference rate reform, on financial reporting. The risk of termination of the London Interbank Offered Rate (LIBOR), has caused regulators to undertake reference rate reform initiatives to identify alternative reference rates that are more observable or transaction-based that are less susceptible to manipulation. ASU 2020-04 is effective between March 12, 2020 and December 31, 2022.
In addition, the FASB has issued ASU 2021-01, Reference Rate Reform (Topic 848): Scope. The amendments in this update refine the scope for certain optional expedients and exceptions for contract modifications and hedge accounting to apply to derivative contracts and certain hedging relationships affected by the discounting transition. The amendments in this update are effective for all entities as of March 12, 2020 through December 31, 2022. The Company is currently evaluating the impact of adopting the reference rate reform guidance (both ASU 2020-04 and ASU 2021-01) on its consolidated financial statements. The Company has identified its products that utilize LIBOR, has begun efforts to transition to an alternative reference rate, and is continuing to evaluate systems to assist in the transition to a new rate.
The FASB has issued ASU 2016-13, Financial Instruments—Loan Losses (Topic 326). The main objective of this update is to provide financial statement users with more decision-useful information about the expected loan losses on financial instruments and other commitments to extend credit held by a reporting entity at each reporting date. To achieve this objective, the guidance in this update replaces the incurred loss impairment methodology in current GAAP with a methodology that reflects current expected loan losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates. The measurement of current expected loan losses is based on relevant information about past events, including historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount. An entity must use judgment in determining the relevant information and estimation methods that are appropriate in its circumstances. This ASU, as amended by ASU 2019-10, will be effective for the Company on January 1, 2023.
In addition, the FASB has issued ASU 2019-10, Financial Instruments – Credit losses (Topic 326), Derivatives and Hedging (Topic 815), and Leases (Topic 842). This ASU amends the effective date of the current expected credit loss standard (ASU 2016-13) for smaller reporting companies, as defined by the SEC. The one-time determination of whether an entity is eligible to be a smaller reporting company was based on an entity’s then most recent determination, in accordance with SEC regulations, as of November 15, 2019; the Company met this definition of smaller reporting company. As a result, the effective date of ASU 2016-03 for the Company has been amended from fiscal years beginning after December 15, 2019, and interim periods within those fiscal years, to fiscal years beginning after December 31, 2022, and interim periods within those fiscal years. The Company is currently evaluating the impact of adopting this standard on its consolidated financial statements, and has licensed and implemented third party software to gather historical data and review the methodologies and assumptions to be utilized.
11
Note 2: Investment Securities
The Bank holds securities classified as available for sale and held to maturity.
The amortized cost and estimated fair values of investments at the dates indicated are presented in the following table:
Gross unrealized losses and fair value by investment category and length of time the individual securities have been in a continuous unrealized loss position at June 30, 2021 and December 31, 2020 are presented in the following tables:
The unrealized losses that existed were a result of market changes in interest rates since the original purchase. Management systematically evaluates investment securities for other-than-temporary declines in fair value on a quarterly basis. This analysis requires management to consider various factors, which include: (1) the duration and magnitude of the decline in value; (2) the financial condition of the issuer or issuers; and (3) the structure of the security. The number of securities in the portfolio with unrealized losses totaled 59 and 11 at June 30, 2021 and December 31, 2020, respectively.
12
An impairment loss is recognized in earnings if any of the following are true: (1) the Company intends to sell the debt security; (2) it is more likely than not that the Company will be required to sell the security before recovery of its amortized cost basis; or (3) the Company does not expect to recover the entire amortized cost basis of the security. In situations where the Company intends to sell or when it is more likely than not that the Company will be required to sell the security, the entire impairment loss must be recognized in earnings. In all other situations, only the portion of the impairment loss representing the credit loss must be recognized in earnings, with the remaining portion being recognized in stockholders’ equity as a component of other comprehensive income, net of deferred tax.
The amortized cost and estimated fair values of investment securities, by contractual maturity, at the dates indicated are presented in the following table. Expected maturities will differ from contractual maturities as borrowers may have the right to prepay obligations with or without prepayment penalties.
At June 30, 2021 and December 31, 2020, securities with a fair value of $242.3 million and $226.2 million, respectively, were pledged as collateral. These securities were pledged at the Federal Reserve Bank of Richmond (“FRB”) Discount Window as well as for repurchase agreements and deposits of local government entities that require pledged collateral as a condition of maintaining these deposit accounts. No single issuer of securities, except for government agency and mortgage backed securities, had outstanding balances that exceeded ten percent of stockholders’ equity at June 30, 2021.
Note 3: Loans and Leases
The Company makes loans and leases to customers primarily in the Greater Baltimore - Washington Metropolitan Area, and surrounding communities. A substantial portion of the Company’s loan portfolio consists of loans to businesses secured by real estate and/or other business assets.
The loan and lease portfolio segment balances at the dates indicated are presented in the following table:
1 Includes equipment financing leases of $2,431 and $3,597 at June 30, 2021 and December 31, 2020, respectively.
13
The Paycheck Protection Program (“PPP”) provides financial relief and funding opportunities for small businesses from approved Small Business Administration (“SBA”) lenders. In response to the COVID-19 pandemic, as an SBA lender, the Bank actively assisted its qualified customers with applications and lending through this program, as amended by subsequent legislation. During 2020, the Bank funded PPP loans with principal balances totaling $201.0 million of which $48.2 million in principal balances were still outstanding at June 30, 2021. With the relaunch of the program by the SBA on January 19, 2021, the Bank funded additional PPP loans with principal balances totaling $100.5 million during 2021, of which $98.1 million in principal balances were still outstanding at June 30, 2021. PPP loans at June 30, 2021 totaled $142.7 million, consisting of $146.3 million in principal balances less $3.7 million of unaccreted net deferred loan fees. Loans funded through the PPP program are fully guaranteed by the U.S. government and the Company anticipates that the majority of these loans will ultimately be forgiven by the SBA in accordance with the terms of the program.
Total loan and lease balances at June 30, 2021 and December 31, 2020 include net deferred loan fees or costs, including premiums on purchased loans. Net deferred loan costs, including premiums on purchased loans, were $607 thousand at June 30, 2021; this amount included the $3.7 million in net deferred loan fees attributable to PPP loans. Net deferred loan fees, including premiums on purchased loans, totaled $913 thousand at December 31, 2020; this amount included $3.2 million in net deferred fees attributable to PPP loans.
Acquired Credit Impaired Loans
The following table summarizes changes in the accretable discount on acquired credit impaired loans for the periods indicated:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended |
|
Three Months Ended |
|
||||||||
|
|
|
June 30, |
|
June 30, |
|
||||||||
|
(in thousands) |
|
2021 |
|
2020 |
|
2021 |
|
2020 |
|
||||
|
Balance at beginning of period |
|
$ |
295 |
|
$ |
689 |
|
$ |
109 |
|
$ |
673 |
|
|
Accretion of fair value discounts |
|
|
(186) |
|
|
(115) |
|
|
— |
|
|
(99) |
|
|
Balance at end of period |
|
$ |
109 |
|
$ |
574 |
|
$ |
109 |
|
$ |
574 |
|
The table below presents the outstanding balances and related carrying amounts for all acquired credit impaired loans at the dates indicated:
|
|
|
|
|
|
|
|
|
|
|
Contractually |
|
|
|
|
|
|
|
Required |
|
|
|
|
|
|
|
Payments |
|
Carrying |
||
|
(in thousands) |
|
Receivable |
|
Amount |
||
|
At June 30, 2021 |
|
$ |
1,476 |
|
$ |
834 |
|
At December 31, 2020 |
|
|
4,721 |
|
|
3,510 |
14
Note 4: Credit Quality Assessment
Allowance for Loan and Lease Losses
Summary information on allowance for loan and lease losses activity for the periods indicated is presented in the following table:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended |
|
Three Months Ended |
||||||||
|
|
|
June 30, |
|
June 30, |
||||||||
|
(in thousands) |
|
2021 |
|
2020 |
|
2021 |
|
2020 |
||||
|
Beginning balance |
|
$ |
19,162 |
|
$ |
10,401 |
|
$ |
18,368 |
|
$ |
13,384 |
|
Charge-offs |
|
|
(2,107) |
|
|
(614) |
|
|
(276) |
|
|
(31) |
|
Recoveries |
|
|
233 |
|
|
124 |
|
|
196 |
|
|
3 |
|
Net charge-offs |
|
|
(1,874) |
|
|
(490) |
|
|
(80) |
|
|
(28) |
|
Provision for credit losses |
|
|
1,000 |
|
|
6,445 |
|
|
— |
|
|
3,000 |
|
Ending balance |
|
$ |
18,288 |
|
$ |
16,356 |
|
$ |
18,288 |
|
$ |
16,356 |
The June 30, 2021 allowance includes the Company’s quarterly reassessment of the impact of COVID-19 on the national and local economies and the impact on various categories of our loan portfolio. Management’s methodology for the evaluation of COVID-19’s impact on the allowance, which is essentially unchanged since March 31, 2020, identified the following qualitative factors for further review:
| ● | changes in international, national, regional, and local economic and business conditions and developments that affect the collectability of the portfolio, including the condition of various market segments; |
| ● | the existence and effect of any concentrations of credit, and changes in the level of such concentrations; |
| ● | changes in the value of underlying collateral for collateral-dependent loans; and |
| ● | changes in the volume and severity of past due, nonaccrual, and adversely classified loans. |
The following table provides information on the activity in the allowance, by the respective loan and lease portfolio segments, for the six and three months ended June 30, 2021 and 2020:
15
1 Portion attributable to loan and lease losses.
When potential losses are identified, a specific provision and/or charge-off may be taken, based on the then current likelihood of repayment, that is at least in the amount of the collateral deficiency, and any potential collection costs, as determined by an independent third party appraisal.
Loans that are considered impaired are subject to the completion of an impairment analysis. This analysis highlights any potential collateral deficiencies. A specific amount of impairment is established based on the Bank’s calculation of the probable loss inherent in the individual loan. The actual occurrence and severity of losses involving impaired credits can differ substantially from estimates.
Credit risk profile by portfolio segment, based upon internally assigned risk assignments, are presented below:
| ● | Special Mention - A Special Mention asset has potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the asset or in |
16
| the institution’s credit position at some future date. Special Mention assets are not adversely classified and do not expose an institution to sufficient risk to warrant adverse classification. |
| ● | Substandard - Substandard loans and leases are inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged, if any. Loans and leases so classified must have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They are characterized by the distinct possibility that the Bank will sustain some loss if the deficiencies are not corrected. |
| ● | Doubtful - Loans and leases classified Doubtful have all the weaknesses inherent in those classified Substandard with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently known facts, conditions and values, highly questionable and improbable. |
Loans and leases classified Special Mention, Substandard, and Doubtful are reviewed at least quarterly to determine their appropriate classification. All commercial credit relationships are reviewed annually. Non-classified residential mortgage loans and consumer loans are not evaluated unless a specific event occurs to raise the awareness of a possible credit deterioration.
Credit risk profile by portfolio segment based upon internally assigned credit quality indicators are presented below:
1 Included are acquired credit impaired loans where the Company amortizes the accretable discount into interest income; however these loans do not accrue interest based on the terms of the loan.
Total loans and leases either on nonaccrual status or in excess of 90 days delinquent totaled $20.6 million, or 1.1% of total loans and leases, at June 30, 2021, a $2.3 million increase from $18.3 million, or 1.0% of total loans and leases, at December 31, 2020.
17
The Company had no impaired leases or impaired PPP loans at June 30, 2021 and December 31, 2020. The impaired loans at June 30, 2021 and December 31, 2020 were as follows:
1 Included are acquired credit impaired loans where the Company amortizes the accretable discount into interest income; however these loans do not accrue interest based on the terms of the loan.
Included in the total impaired loans above were nonaccrual loans of $15.0 million and $17.9 million at June 30, 2021 and December 31, 2020, respectively. Interest income that would have been recorded if nonaccrual loans had been current and performing in accordance with their original terms was $320 thousand and $338 thousand for the six months ended June 30, 2021 and 2020, respectively.
Loans may have their terms restructured (e.g., interest rates, loan maturity date, payment and amortization period, etc.) in circumstances that provide payment relief to a borrower experiencing financial difficulty. Such restructured loans are considered impaired loans that may either be in accruing status or non-accruing status. Non-accruing restructured loans may return to accruing status provided there is a sufficient period of payment performance in accordance with the restructure terms. Loans may be removed from the restructured category in the year subsequent to the restructuring if they have performed based on all of the restructured loan terms.
18
The Company had no leases or PPP loans that were troubled debt restructurings (“TDRs”) at June 30, 2021 and December 31, 2020. The TDR loans at June 30, 2021 and December 31, 2020 were as follows:
A summary of TDR modifications outstanding and performing under modified terms is as follows:
The Coronavirus Aid, Relief and Economic Security Act (“CARES Act”) provides financial institutions with relief from certain accounting and disclosure requirements under GAAP for certain loan modifications to borrowers affected by COVID-19 that would otherwise be characterized as TDRs. In addition, before the CARES Act was enacted, federal banking regulators issued an interagency statement that included guidance on their approach for the accounting of loan modifications in light of the economic impact of the COVID-19 pandemic. The guidance interprets current accounting standards and indicates that a lender can conclude that a borrower is not experiencing financial difficulty if short-term modifications are made in response to COVID-19, such as payment deferrals, fee waivers, extensions of repayment terms, or other delays in payment that are insignificant related to the loans in which the borrower is less than 30 days past due on its contractual payments at the time a modification program is implemented. The agencies confirmed in working with the staff of the FASB that short-term modifications made on a good faith basis in response to COVID-19 to borrowers who were current prior to any relief are not TDRs. As of June 30, 2021, a total of $30.4 million of loans, representing 1.6% of total loans, were performing under some form of COVID-19 related deferral or other payment relief.
Performing TDRs were in compliance with their modified terms and there are no further commitments associated with these loans. Included in nonaccrual loans at June 30, 2021 are two TDRs with a carrying balance totaling $318 thousand that were not performing in accordance with their modified terms, and the accrual of interest has ceased. In addition, there
19
were five TDRs totaling $1.2 million that were performing in accordance with their modified terms at June 30, 2021. During the six months ended June 30, 2021, the Company reported a new $104 thousand residential real estate TDR, downgraded to nonperforming a $237 thousand commercial loan TDR that previously had been performing in accordance with its modified terms, and fully charged-off a $413 thousand nonperforming commercial loan TDR.
There were no new TDRs during the six months ended June 30, 2020.
At June 30, 2021 there was one loan secured by a residential real estate first lien of $54 thousand in the process of foreclosure.
Note 5: Derivatives and Hedging Activities
Non-designated Hedges of Interest Rate Risk
The Company maintains interest rate swap contracts with customers that are classified as non-designated hedges and are not speculative in nature. These agreements are designed to effectively convert certain customer’s variable rate loans with the Company to fixed rate. These interest rate swaps are executed with loan customers to facilitate their respective risk management strategy and allow the customer to pay a fixed rate of interest to the Company. These interest rate swaps are simultaneously economically hedged by executing offsetting interest rate swaps with unrelated market counterparties to minimize the net risk exposure to the Company resulting from the transactions and allow the Company to receive a variable rate of interest. The interest rate swaps pay and receive interest based on a floating rate indexed to one month LIBOR plus a credit spread with payment being calculated on the notional amount. The interest rate swaps are settled with varying maturities.
As the interest rate swaps associated with this program do not meet the strict hedge accounting requirements, changes in the fair value of both the customer swaps and the offsetting swaps are recognized directly in earnings. The fair value of the interest rate swap derivatives are recorded in other assets and other liabilities. All changes in fair value are recorded through earnings as noninterest income. For the six months ended June 30, 2021 and June 30, 2020, the Company recorded a net gain of $24 thousand and a net loss of $9 thousand, respectively related to the change in fair value of these interest rate swap derivatives.
The table below presents the fair value of the Company’s derivative financial instruments as well as their classification on the Unaudited Condensed Consolidated Balance Sheet at June 30, 2021 and December 31, 2020:
20
Note 6: Goodwill and Other Intangible Assets
Goodwill has an indefinite useful life and is evaluated for impairment annually or more frequently if events or changes in circumstances indicate that the asset might be impaired. The Bank has one reporting unit, which is community banking. The Company performs its annual impairment evaluation in the fourth quarter.
The table below presents goodwill activity for the periods indicated:
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended |
|
Year Ended |
||
|
(in thousands) |
|
June 30, 2021 |
|
December 31, 2020 |
||
|
Balance at January 1 |
|
$ |
31,449 |
|
$ |
65,949 |
|
Goodwill impairment |
|
|
— |
|
|
(34,500) |
|
Balance at end of period |
|
$ |
31,449 |
|
$ |
31,449 |
Due to the COVID-19 pandemic and the related economic fallout in the first half of 2020, including most specifically, declining stock prices at both the Company and peer banks, the Federal Reserve’s significant reduction in interest rates, and other business and market considerations, the Company performed an interim goodwill impairment analysis as of June 30, 2020. Based on this analysis, the estimated fair value of the Company was less than book value, resulting in a $34.5 million impairment charge, recorded in noninterest expense, in the second quarter of 2020. This was a non-cash charge to earnings and had no impact on the Company’s regulatory capital ratios, cash flows, or liquidity position.
Other intangible assets consist of core deposit intangibles, which represent the estimated value of long-term deposit relationships acquired in either business combinations or other purchases of deposits and are amortized based upon the estimated economic benefits received. The gross carrying amount and accumulated amortization of core deposit intangibles at the dates indicated were as follows:
Estimated future amortization expense for core deposit intangibles is as follows:
|
|
|
|
|
|
(in thousands) |
|
|
|
|
Remainder of 2021 |
|
$ |
1,117 |
|
2022 |
|
|
1,915 |
|
2023 |
|
|
1,298 |
|
2024 |
|
|
256 |
|
Total future amortization expense |
|
$ |
4,586 |
Based on the annual impairment analysis, the Company determined that there was not an impairment of the carrying value of either the goodwill or core deposit intangible at December 31, 2020. The Company is not aware of any events or circumstances since the completion of the annual impairment analysis that would impact the carrying value of either the goodwill or core deposit intangible at June 30, 2021.
Note 7: Operating Leases
The Company has operating leases on land and buildings with remaining lease terms ranging from 2021 to 2030. Many of the leases include renewal options, with renewal terms generally extending up to 10 years.
21
Operating lease right-of-use (“ROU”) assets and lease liabilities at the dates indicated were as follows:
|
|
|
|
|
|
|
|
|
|
(in thousands) |
|
June 30, 2021 |
|
December 31, 2020 |
|
||
|
Operating lease ROU assets |
|
$ |
12,477 |
|
$ |
13,229 |
|
|
Operating lease liabilities |
|
$ |
13,474 |
|
$ |
14,267 |
|
The components of lease expense for the periods indicated were as follows:
The maturities of the Company’s lease liabilities at June 30, 2021 were as follows:
The Company from time to time subleases its vacant locations. Operating sublease income is recognized as a component of noninterest expense on a straight-line basis over the sublease term. Lease terms range from one to six years.
The following table details the future minimum operating sublease payments to be received at June 30, 2021:
22
Note 8: Deposits
The following table details the composition of deposits and the related percentage mix of total deposits, respectively, at the dates indicated:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, 2021 |
|
December 31, 2020 |
|
||||||
|
|
|
|
|
|
% of |
|
|
|
|
% of |
|
|
(in thousands) |
|
Amount |
|
Total |
|
Amount |
|
Total |
|
||
|
Noninterest-bearing demand |
|
$ |
778,388 |
|
38.5 |
% |
$ |
676,801 |
|
34.2 |
% |
|
Interest-bearing checking |
|
|
209,079 |
|
10.3 |
|
|
214,717 |
|
11.1 |
|
|
Money market accounts |
|
|
438,366 |
|
21.6 |
|
|
439,510 |
|
22.2 |
|
|
Savings |
|
|
180,756 |
|
8.9 |
|
|
159,914 |
|
8.1 |
|
|
Certificates of deposit $250 and over |
|
|
36,818 |
|
1.8 |
|
|
51,918 |
|
2.6 |
|
|
Certificates of deposit under $250 |
|
|
382,150 |
|
18.9 |
|
|
432,554 |
|
21.8 |
|
|
Total deposits |
|
$ |
2,025,557 |
|
100.0 |
% |
$ |
1,975,414 |
|
100.0 |
% |
Note 9: Stock Options and Stock Awards
Bancorp’s equity incentive plan provides for awards of nonqualified and incentive stock options as well as vested and non-vested common stock awards. As of June 30, 2021, 287,600 shares are available for issuance pursuant to future grants under our stock incentive plan. Employee stock options can be granted with exercise prices at the fair market value (as defined within the plan) of the stock at the date of grant and with terms of up to ten years and typically vest over a three to five year period. Except as otherwise permitted in the plan, upon termination of employment, permanent disability or death, the option exercise period is reduced or the options are canceled.
Stock awards may also be granted to non-employee members of the Company’s board of directors (the “Board of Directors” or “Board”) as compensation for attendance and participation at meetings of the Board of Directors and meetings of the various committees of the Board. During the six months ended June 30, 2021 and 2020, the Company issued 12,408 and 8,151 shares of common stock, respectively, to directors as compensation for their service.
Stock Options
The fair value of Bancorp’s stock options granted as compensation is estimated on the measurement date, which, for the Company, is the date of grant. The fair value of stock options is calculated using the Black-Scholes option-pricing model under which the Company estimates expected market price volatility and expected term of the options based on historical data and other factors. There were no stock options granted in either 2021 or 2020.
The following table summarizes Bancorp’s stock option activity and related information for the periods ended:
No cash was received from exercise of options for the six months ended June 30, 2021 or 2020. The intrinsic value of a stock option is the amount that the market value of the underlying stock exceeds the exercise price of the option. Based
23
upon a fair market value of $16.13 on June 30, 2021, the options outstanding had an aggregate intrinsic value of $40 thousand. At December 31, 2020, based upon a fair market value of $11.81, the options outstanding had no aggregate intrinsic value. The stock options outstanding as of June 30, 2021 have contractual terms that permit exercise of the options through 2029.
At June 30, 2021, based on stock option awards outstanding at that time, the total unrecognized pre-tax compensation expense related to unvested stock option awards was $28 thousand. Based upon the contractual terms, $24 thousand of this expense is expected to be recognized in the remainder of 2021 and $4 thousand in 2022.
Restricted Stock Units (“RSU”)
RSUs are equity awards where the recipient does not receive the stock immediately, but instead receives it according to a vesting plan and distribution schedule after achieving required performance milestones or upon remaining with the employer for a particular length of time. Each RSU that vests entitles the recipient to receive one share of the Company’s common stock on a specified issuance date. The recipient does not have any stockholder rights, including voting, dividend or liquidation rights, with respect to the shares underlying awarded RSUs until the recipient becomes the record holder of those shares. The valuation of the Company’s RSUs is the closing price per share of the Company’s common stock on the date of grant.
The Company granted a total of 67,976 RSUs during the first six months of 2021 consisting of 52,488 time-based RSUs which are subject to a three or five year vesting schedule, and 15,488 performance-based RSUs that cliff vest upon the attainment of pre-established corporate performance measures for the year 2023. During the first six months of 2020, the Company granted a total of 156,947 RSUs, consisting of 132,651 time-based RSUs which are subject to a one, three or five year vesting schedule, and 24,296 performance-based RSUs that cliff vest upon the attainment of pre-established corporate performance measures over a three-year performance period.
A summary of the activity for the Company’s RSUs for the periods indicated is presented in the following table:
At June 30, 2021, based on RSUs outstanding at that time, the total unrecognized pre-tax compensation expense related to unvested RSUs was $2.4 million. Based upon the contractual terms, this expense is expected to be recognized as follows:
|
|
|
|
|
|
(in thousands) |
|
|
|
|
Remainder of 2021 |
|
$ |
351 |
|
2022 |
|
|
694 |
|
2023 |
|
|
599 |
|
2024 |
|
|
508 |
|
2025 |
|
|
164 |
|
2026 |
|
|
42 |
|
|
|
$ |
2,358 |
24
Stock-Based Compensation Expense
Stock-based compensation expense attributable to stock options and RSUs is based on their fair values on the measurement date, which, for the Company, is the date of the grant. This cost is then recognized in noninterest expense on a straight-line basis over the vesting period of the respective stock options and RSUs. No compensation expense was recognized in the three or six month periods ended June 30, 2021 or in the year ended December 31, 2020 for performance-based RSUs, as the probability of achievement of the performance metrics was considered unlikely. Compensation expense for performance-based awards could be recognized in future periods if the probability of achieving the performance metrics becomes likely before the end of the three-year performance period. The amount that the Company recognized in stock-based compensation expense related to the issuance of stock options and RSUs as well as director compensation paid in stock is presented in the following table:
Note 10: Net Income (Loss) per Common Share
The calculation of basic and diluted net income (loss) per common share for the six and three months ended June 30, 2021 and 2020 are presented in the following table:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended |
|
Three Months Ended |
||||||||
|
|
|
June 30 |
|
June 30 |
||||||||
|
(dollars in thousands, except per share data) |
|
2021 |
|
2020 |
|
2021 |
|
2020 |
||||
|
Net income (loss) available to common stockholders (numerator) |
|
$ |
13,658 |
|
$ |
(26,066) |
|
$ |
7,456 |
|
$ |
(29,409) |
|
BASIC |
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic average common shares outstanding (denominator) |
|
|
18,777,495 |
|
|
18,791,378 |
|
|
18,786,882 |
|
|
18,715,669 |
|
Basic income (loss) per common share |
|
$ |
0.73 |
|
$ |
(1.39) |
|
$ |
0.40 |
|
$ |
(1.57) |
|
DILUTED |
|
|
|
|
|
|
|
|
|
|
|
|
|
Average common shares outstanding |
|
|
18,777,495 |
|
|
18,791,378 |
|
|
18,786,882 |
|
|
18,715,669 |
|
Dilutive effect of common stock equivalents |
|
|
69,465 |
|
|
— |
|
|
84,508 |
|
|
— |
|
Diluted average common shares outstanding (denominator) |
|
|
18,846,960 |
|
|
18,791,378 |
|
|
18,871,390 |
|
|
18,715,669 |
|
Diluted income (loss) per common share |
|
$ |
0.72 |
|
$ |
(1.39) |
|
$ |
0.40 |
|
$ |
(1.57) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Because the Company reported a loss for both 2020 periods, common stock equivalents were excluded from the calculation of diluted average shares outstanding, as their inclusion would have resulted in a lower diluted loss per share |
|
|
— |
|
|
81,761 |
|
|
— |
|
|
59,466 |
|
Common stock equivalents outstanding that are anti-dilutive and thus excluded from calculation of diluted number of shares presented above |
|
|
— |
|
|
25,000 |
|
|
— |
|
|
25,000 |
25
Note 11: Regulatory Matters
Actual regulatory capital amounts and ratios for Bancorp and the Bank at June 30, 2021 and December 31, 2020 are presented in the following table:
1 Amounts shown exclude the capital conservation buffer of 2.50%. Under the Federal Reserve’s Small Bank Holding Company Policy Statement, Bancorp is not subject to the minimum capital adequacy and capital conservation buffer capital requirements at the holding company level, unless otherwise advised by the FRB (such capital requirements are applicable only at the Bank level). Although the minimum regulatory capital requirements are not applicable to Bancorp, the Company calculates these ratios for its own planning and monitoring purposes.
Bancorp and the Bank met all capital adequacy requirements to which they are subject as of June 30, 2021 and December 31, 2020.
26
Note 12: Litigation
In the ordinary course of business, the Company and its subsidiaries are routinely defendants in or parties to pending and threatened legal and regulatory actions and proceedings. The most significant of these is described below. In view of the inherent difficulty of predicting the outcome of such matters, particularly where the claimants seek very large or indeterminate damages or where the matters present novel legal theories or involve a large number of parties, the Company generally cannot predict what the eventual outcome of the pending matters will be, what the timing of the ultimate resolution of these matters will be, or what the eventual loss, fines or penalties related to each matter may be. The Company establishes an accrued liability when those matters present loss contingencies that are both probable and reasonably estimable. In such cases, there may be an exposure to loss in excess of any amounts accrued. The Company thereafter continues to monitor such matters for further developments that could affect the amount of the accrued liability that has been previously established.
Settled mortgage origination claim
The Bank was notified of potential claims stemming from certain mortgages originated at First Mariner Bank prior to its merger into the Bank. While no lawsuit was filed with respect to such potential claims, the Bank engaged in confidential discussions related to the potential claims. Significant management judgment, which involves a variety of assumptions, estimates and known and unknown uncertainties, was required to assess whether a related loss resulting from these potential claims was probable and estimable, such that an accrued liability should be established. The Company accrued a total liability of $2.0 million ($1.0 million in both the second and fourth quarters of 2020) with respect to these potential claims in 2020. This potential litigation was formally settled for $2.0 million in January 2021, the amount of the Company’s accrued liability at December 31, 2020.
Note 13: Fair Value
FASB ASC Topic 820 “Fair Value Measurement” (“Topic 820”) defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. Topic 820 also establishes a fair value hierarchy, which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.
The Company utilizes fair value measurements to record fair value adjustments to certain assets and to determine fair value disclosures. Securities available for sale are recorded at fair value on a recurring basis. Additionally, from time to time, the Company may be required to record at fair value other assets on a nonrecurring basis, such as loans held for investment and certain other assets. These nonrecurring fair value adjustments typically involve application of lower of cost or market accounting or write-downs of individual assets.
Under Topic 820, the Company groups assets and liabilities at fair value in three levels, based on the markets in which the assets and liabilities are traded and the reliability of the assumptions used to determine the fair value. These hierarchy levels are:
Level 1: Valuations for assets and liabilities traded in active exchange markets. Valuations are obtained from readily available pricing sources for market transactions involving identical assets or liabilities.
Level 2: Valuations for assets and liabilities traded in less active dealer or broker markets. Valuations are obtained from third party pricing services for identical or comparable assets or liabilities which use observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.
Level 3: Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.
27
A financial instrument's level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement.
Recurring Fair Value Measurements
All classes of investment securities available for sale are recorded at fair value using an industry-wide valuation service. The service uses evaluated pricing models that vary based on asset class and include available trade, bid and other market information. Various methodologies include broker quotes, proprietary models, descriptive terms and conditions databases, and quality control programs. Therefore, these securities fall into Level 2 of the fair value hierarchy.
For loans held for investment that were originally intended to be sold and previously included as loans held for sale, fair value is determined by discounting estimated cash flows using current rates at which similar loans would be made to borrowers with similar credit ratings and for the same remaining maturities.
The following table sets forth the Company’s financial assets and liabilities that were accounted or disclosed at fair value on a recurring basis at June 30, 2021 and December 31, 2020.
The Company, while engaged in mortgage banking activities, had elected to measure loans held for sale at fair value to better align reported results with the underlying economic changes in value of these loans on the Company’s balance sheet. While the Company has exited its mortgage banking activities and no longer has loans held for sale, it is required to continue to measure at fair value those loans held for investment that were originally intended for sale, but instead were
28
added to the Bank’s portfolio. The following table presents the carrying value and aggregate unpaid principal balances for loans held for investment, that are required to be measured at fair value on a recurring basis, at the dates presented:
Non-recurring Fair Value Measurements
Level 3 is for positions that are not traded in active markets or are subject to transfer restrictions. Valuations are adjusted to reflect illiquidity and/or non-transferability, and such adjustments are generally based on available market evidence. In the absence of such evidence, management's best estimate is used.
Impaired loans are evaluated and valued at the time the loan is identified as impaired, at the lower of cost or market value. Market value is measured based on the value of the collateral securing these loans and is classified at a Level 3 in the fair value hierarchy. Collateral may be real estate and/or business assets including equipment, inventory and/or accounts receivable. The value of real estate collateral is determined based on appraisal by qualified licensed appraisers hired by the Company. The value of business equipment, inventory and accounts receivable collateral is based on the net book value on the business' financial statements and, if necessary, discounted based on management's review and analysis. Appraised and reported values may be discounted based on management's historical knowledge, changes in market conditions from the time of valuation, and/or management's expertise and knowledge of the client and client's business. Impaired loans are reviewed and evaluated on at least a quarterly basis for additional impairment and adjusted accordingly, based on the same factors identified above.
Other real estate owned acquired through, or in lieu of, foreclosure (“OREO”) are held for sale and are initially recorded at fair value, less selling costs. Any write-downs to fair value at the time of transfer to OREO are charged to the allowance for loan and lease losses. Values are derived from appraisals of underlying collateral and discounted cash flow analysis. There was no valuation loss recorded in the first six months of 2021; a valuation loss of $257 thousand was recognized for the six months ended June 30, 2020. This charge was for declines in the value of OREO subsequent to foreclosure. OREO is classified within Level 3 of the hierarchy.
The following table sets forth the Company’s financial assets and liabilities that were accounted for or disclosed at fair value on a nonrecurring basis at June 30, 2021 and December 31, 2020:
29
At June 30, 2021, OREO consisted of an outstanding balance of $1.2 million, less a valuation allowance of $569 thousand. At December 31, 2020, OREO consisted of an outstanding balance of $1.5 million, less a valuation allowance of $731 thousand. There was no specific allocation of the allowance for credit losses attributable to impaired loans at June 30, 2021 compared to $894 thousand at December 31, 2020.
Various techniques are used to value OREO and impaired loans. For all loans where the underlying collateral is real estate, either construction, land, commercial, or residential, an independent appraisal is used to identify the value of the collateral. The approaches within the appraisal report include sales comparison, income, and replacement cost analysis. The resulting value will be adjusted by a selling cost of 9.5% and the residual value will be used to determine if there is an impairment. Commercial loans and leases and consumer loans utilize a liquidation approach to the impairment analysis.
The fair value of a financial instrument is the amount at which the instrument could be exchanged in a current transaction between willing parties, other than in a forced or liquidation sale. Fair value estimates are based on quoted market prices where available or calculated using present value techniques. Since quoted market prices are not available on many of our financial instruments, estimates may be based on the present value of estimated future cash flows and estimated discount rates.
The following table presents the estimated fair value of the Company’s financial instruments at the dates indicated:
30
1 Carrying amount is net of unearned income and allowance for loan and lease losses
Note 14: Exit of Mortgage Banking Activities
The Company completed the exit of its former mortgage banking activities in the quarter ended March 31, 2020. The following table presents a roll-forward of loans held for sale, showing loans originated for sale and loans sold into the secondary market, for the six months ended June 30, 2020. In addition, the volume of loans originated for the Company’s loan portfolio as well as a statement of operations for the mortgage banking activities for the six months ended June 30, 2020 is presented. Since the mortgage banking activities were conducted within a division of the Bank, formal financial statements were not prepared. The statement of operations presented below reflects only the direct costs associated with the Company’s mortgage banking activities and is thus representative of the incremental after tax impact of exiting this activity.
31
Since the Company exited its mortgage banking activities in the quarter ended March 31, 2020, there were no results of operations related to mortgage banking activities for the three and six month periods ended June 30, 2021 or the three month period ended June 30, 2020.
Note 15: Subsequent Event
On July 12, 2021, the Company and F.N.B. Corporation (“F.N.B.”), the parent company of First National Bank of Pennsylvania, entered into an Agreement and Plan of Merger, pursuant to which the Company will merge with and into F.N.B. As a result of the merger, the separate corporate existence of the Company will cease and F.N.B. will continue as the surviving corporation (the “Merger”). Immediately after the Merger is completed, the Bank will merge with and into First National Bank of Pennsylvania, a national association, with First National Bank of Pennsylvania being the surviving entity. The Merger is expected to be completed in early 2022, subject to approval by the Company’s stockholders and receipt of required regulatory and other approvals and satisfaction of customary closing conditions.
32
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following is a discussion of our consolidated financial condition as of June 30, 2021, as compared to December 31, 2020, and our results of operations for the six and three month periods ended June 30, 2021 and June 30, 2020. This discussion and analysis should be read in conjunction with our unaudited Condensed Consolidated Financial Statements and related notes as well as the financial and statistical data appearing elsewhere in this report and in our Annual Report on Form 10-K for the year ended December 31, 2020. Historical results of operations and the percentage relationships among any amounts included, and any trends that may appear, may not indicate results of operations for any future periods.
We have made, and will continue to make, various forward-looking statements with respect to financial, business and economic matters. Comments regarding our business that are not historical facts are considered forward-looking statements that involve inherent risks and uncertainties. Actual results may differ materially from those contained in these forward-looking statements. For additional information regarding our cautionary disclosures, see the cautionary note regarding “Cautionary Note Regarding Forward-Looking Statements” at the beginning of this report.
In this report, unless the context suggests otherwise, references to the “Company” refer to Howard Bancorp, Inc. and references to “we,” “us,” and “our” mean the combined business of the Company and the Bank and its wholly-owned subsidiaries.
Overview
Howard Bancorp, Inc. is the holding company for Howard Bank. Howard Bank was formed in 2004. Howard Bank’s business has consisted primarily of originating both commercial and real estate loans secured by property in our market area. We are headquartered in Baltimore, Maryland. We consider our primary market area to be the Greater Baltimore - Washington Metropolitan Area. We engage in a general commercial banking business, making various types of loans and accepting deposits. We market our financial services primarily to small- and medium-sized businesses and their owners, professionals and executives, and high-net-worth individuals. Our loans are primarily funded by core deposits of customers in our market.
Recent Developments
On July 12, 2021, the Company and F.N.B. Corporation (“F.N.B.”), the parent company of First National Bank of Pennsylvania, entered into an Agreement and Plan of Merger, pursuant to which the Company will merge with and into F.N.B. As a result of the merger, the separate corporate existence of the Company will cease and F.N.B. will continue as the surviving corporation (the “Merger”). Immediately after the Merger is completed, the Bank will merge with and into First National Bank of Pennsylvania, a national association, with First National Bank of Pennsylvania being the surviving entity.
Subject to the terms and conditions of the Merger Agreement and in connection with the Merger, holders of the Company’s common stock will have the right to receive shares of F.N.B. common stock at a fixed exchange ratio of 1.80 shares of F.N.B. common stock for each share of Company common stock, plus cash in lieu of any fractional shares.
The Merger is expected to be completed in early 2022, subject to approval by the Company’s stockholders and receipt of required regulatory and other approvals and satisfaction of customary closing conditions.
COVID-19 Pandemic
Our business, financial condition and results of operations generally rely upon the ability of our borrowers to repay their loans, the value of collateral underlying our secured loans, and demand for loans and other products and services we offer, which are highly dependent on the business environment in our primary market and in the United States as a whole. The impact of the COVID-19 pandemic is fluid and continues to evolve. The COVID-19 pandemic and related restrictive measures taken by governments, businesses and individuals to contain the spread of the virus caused unprecedented uncertainty, volatility and disruption in financial markets and in governmental, commercial and consumer activity in the United States and globally, including our local markets. As these restrictive measures have eased, the U.S. economy
33
continues to recover and, with the broad availability and distribution of COVID-19 vaccines, we anticipate continued improvements in commercial and consumer activity, our local economy, and the U.S. economy. On July 1, 2021, the State of Maryland lifted the state of emergency.
While there are reasons for optimism, we recognize that our customers are experiencing varying degrees of financial distress, which we expect to continue into the second half of 2021. Commercial activity continues to improve, but has not yet returned to the levels existing before the outbreak of the pandemic, which may result in our borrowers’ inability to meet their loan obligations. Economic pressures and uncertainties related to the COVID-19 pandemic have also resulted in changes in consumer spending behaviors, which may negatively impact the demand for loans and other services we offer. In addition, our loan portfolio includes customers in industries such as hotels, restaurants and caterers, arts / entertainment / recreation, and retail commercial real estate, all of which have been significantly impacted by the COVID-19 pandemic. We recognize that these industries may take longer to recover as some consumers may be hesitant to return to full social interaction or may change their spending habits on a more permanent basis as a result of the pandemic. We continue to monitor these customers closely.
In addition, due to the COVID-19 pandemic, market interest rates declined significantly, with the 10-year Treasury bond falling to a low of 0.52% in August 2020. While this rate steadily increased from its low to a high of 1.73% at March 31, 2021, this rate has fallen since that time to 1.45% at June 30, 2021 and to 1.23% at July 30, 2021. Additionally, in March 2020, the Federal Open Market Committee reduced the targeted federal funds interest rate range to 0% - 0.25%; this low rate was still in effect as of June 30, 2021. A continuing low interest rate environment could have, possibly materially, an adverse effect on our business, financial condition, and results of operations.
The ultimate extent of the impact of the COVID-19 pandemic on our business, financial condition and results of operations is currently uncertain and will depend on various developments and other factors, including the effect of governmental and private sector initiatives, the ability to reach a sufficient vaccination rate to achieve herd immunity, whether such vaccinations will be effective against any resurgence of the virus, including new strains such as the Delta variant, and the ability of customers and businesses to return to, and remain in, their pre-pandemic routines. In addition, it is reasonably possible that certain significant estimates made in our financial statements could be materially and adversely affected in the near term as a result of these conditions.
Lending Operations and Accommodations to Borrowers
We actively participated in the Small Business Administration's (“SBA”) Paycheck Protection Program (“PPP”) established under the Coronavirus Aid, Relief and Economic Security Act (“CARES” Act), as amended and extended. Lending under the PPP commenced on April 3, 2020 and the SBA notified lenders that PPP funds were exhausted on or around April 16, 2020. On April 24, 2020, additional funds were allocated to the PPP and were available through August 8, 2020. An additional stimulus package, approved on December 27, 2020, authorized additional PPP funds. While the PPP program ended on May 31, 2021, we are now focused on assisting our customers through the loan forgiveness process.
We originated $201.0 million of PPP loans in 2020, consisting of 1,062 loans with an average loan size of $189 thousand. During the second quarter of 2021, 329 PPP loans originated in 2020, with an aggregate principal balance of $62.5 million, were forgiven. During the six months ended June 30, 2021, 738 loans originated in 2020, with an aggregate principal balance of $122.6 million, were forgiven. Of the 1,062 PPP loans we originated in 2020, 887 had been forgiven totaling $152.7 million through June 30, 2021, representing 83.5% of the number of 2020 PPP loans and 76.0% of 2020 principal balances.
After the relaunch of the program by the SBA on January 19, 2021, we originated $100.5 million of PPP loans in the first and second quarters of 2021, consisting of 591 loans with an average loan size of $170 thousand; $4.8 million of this total were originated in the second quarter of 2021 before the program ended. Of these 2021 originations, 36 loans, with an aggregate principal balance of $2.4 million, were forgiven during the second quarter of 2021.
We received processing fees from the SBA for the PPP loans originated in 2020 totaling $6.7 million, which were deferred. In addition, we deferred $782 thousand of origination costs attributable to the 2020 PPP originations. We also received processing fees from the SBA for the PPP loans originated in the first and second quarter of 2021 totaling $4.2 million, which were deferred. In addition, we also deferred $547 thousand of origination costs attributable to the PPP loans
34
originated in the first and second quarter of 2021. The net deferred fees are being accreted as a yield adjustment over the contractual term of the underlying PPP loans.
PPP lending generated pretax income of $3.8 million, or $0.16 after tax per share, in 2020. PPP loans, net of unaccreted net deferred fees, totaled $167.6 million at December 31, 2020. PPP lending generated pretax income of $1.6 million, or $0.06 after tax per share, in the second quarter of 2021. For the six months ended June 30, 2021, PPP lending generated pretax income of $3.7 million, or $0.14 after tax per share. Total PPP loans, net of unaccreted net deferred fees, were $142.7 million at June 30, 2021.
In response to the pandemic, we also established client assistance programs, including offering loan modifications, on a case by case basis, in the form of payment deferrals for periods up to six months, to both commercial and retail customers as discussed in the “Nonperforming and Problem Assets; COVID-19 Loan Deferrals” section of this Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”). We have also temporarily ceased making collection calls, are temporarily waiving a higher proportion of late fees assessed for consumer loans, and have paused new foreclosure and repossession actions. We will continue to re-evaluate these temporary actions based on the ongoing COVID-19 pandemic. These programs may negatively impact our revenue and other results of operations in the near term and, if not effective in mitigating the effect of COVID-19 on our customers, may adversely affect our business and results of operations more substantially over a longer period of time. Current and future governmental actions may require these and other types of customer-related responses.
The CARES Act also permits financial institutions to suspend requirements under GAAP for certain loan modifications to borrowers affected by COVID-19 that would otherwise be characterized as TDRs, as discussed in the “Nonperforming and Problem Assets; COVID-19 Related Loan Deferrals” section of this MD&A.
Impact on Our Results of Operation and Financial Condition
We continue to monitor the impact of the COVID-19 pandemic on our results of operation and financial condition. While the pandemic did not have a significant impact on our financial condition during the year ended December 31, 2020 or the six months ended June 30, 2021, in the form of significant incurred losses or any communications from our borrowers that significant losses were imminent, we nevertheless determined it prudent to increase our allowance for loan and lease losses (the “allowance”) by $7.9 million since December 31, 2019 (the last balance sheet date before the COVID-19 pandemic began), related to changes in qualitative factors, primarily as a result of the abrupt slowdown in commercial economic activity related to COVID-19, as well as the dramatic rise in the unemployment rate in our market area. Our allowance may also be materially impacted in future periods by the COVID-19 pandemic.
In addition, due to the pandemic and the related economic fallout during the first half of 2020, including most specifically, declining stock prices at both the Company and peer banks, the Federal Reserve’s significant reduction in interest rates, and other business and market considerations, we performed an interim goodwill impairment analysis as of June 30, 2020. Based on this analysis, the estimated fair value of the Company was less than book value, resulting in a $34.5 million impairment charge, recorded in noninterest expense, in the second quarter of 2020. This was a non-cash charge to earnings and had no impact on our regulatory capital ratios, cash flows, or liquidity position.
As of June 30, 2021, all of our capital ratios were in excess of all regulatory requirements. While we believe that we have sufficient capital to withstand an extended economic recession resulting from the COVID-19 pandemic, our reported and regulatory capital ratios could be adversely impacted by potential future loan and lease losses.
Use of Non-GAAP Financial Measures and Related Reconciliations
This report contains references to financial measures that are not defined in GAAP. Such non-GAAP financial measures include the presentation of our tangible book value per share, portfolio loans, and portfolio loan-related asset quality ratios.
Management believes that the presentation of these non-GAAP financial measures (a) provides important supplemental information that contributes to a proper understanding of our operating performance and provides a meaningful comparison to our peers, (b) enables a more complete understanding of factors and trends affecting our business, and (c) allows investors to evaluate our performance in a manner similar to management, the financial services industry, bank stock
35
analysts, and bank regulators. Management uses non-GAAP measures as follows: in the preparation of our operating budgets, monthly financial performance reporting, and in our presentation to investors of our performance. However, non-GAAP financial measures have a number of limitations. Limitations associated with non-GAAP financial measures include the risk that persons might disagree as to the appropriateness of items comprising these measures and that different companies might calculate these measures differently. These disclosures should not be considered in isolation or as an alternative to our GAAP results. A reconciliation of non-GAAP financial measures to the most directly comparable GAAP financial measures is presented below.
Certain information in this report is presented with respect to “portfolio loans,” a non-GAAP financial measure defined as total loans and leases, but excluding PPP loans. Portfolio loans is calculated by subtracting PPP loans (net of unamortized deferred fees and origination costs) from total loans and leases. We also provide certain asset quality ratios such as nonperforming loans and the allowance for loan and lease losses as a percentage of portfolio loans. We believe that the presentation of portfolio loans and the related asset quality measures provide additional useful information for purposes of evaluating our results of operations and financial condition with respect to the quarter ended June 30, 2021 and the year ended December 31, 2020 when comparing to other periods, since the PPP loans are 100% guaranteed, were not subject to traditional loan underwriting standards, and a substantial portion of these loans are expected to be forgiven and repaid by the SBA within the next twelve months.
We also present “tangible book value per common share.” We believe that this measure is consistent with the treatment by bank regulatory agencies, which exclude intangible assets from the calculation of risk-based capital ratios. Accordingly, we believe that this non-GAAP financial measure provides information that is important to investors and that is useful in understanding our capital position and ratios. In addition, tangible book value per share is the key metric used by bank analysts in evaluating bank stock price performance. Tangible book value per common share is calculated by dividing tangible common stockholders' equity by total common shares outstanding. Tangible common stockholders' equity is calculated by subtracting goodwill and our net core deposit intangible from total stockholders' equity.
The tables below provide a reconciliation of these non-GAAP financial measures with financial measures defined under GAAP:
Tangible Book Value per Common Share
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
December 31, |
|
June 30, |
|
Jun 2021 vs Dec 2020 |
|
||||||
|
(in thousands, except share data) |
|
2021 |
|
2020 |
|
2020 |
|
$ Change |
|
% Change |
|
||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total stockholders' equity (GAAP) |
|
$ |
303,263 |
|
$ |
294,632 |
|
$ |
283,281 |
|
$ |
8,631 |
|
2.9 |
% |
|
Subtract: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Goodwill |
|
|
31,449 |
|
|
31,449 |
|
|
31,449 |
|
|
— |
|
— |
|
|
Core deposit intangible, net of deferred tax liability |
|
|
3,501 |
|
|
4,393 |
|
|
5,358 |
|
|
(892) |
|
(20.3) |
|
|
Total subtractions |
|
|
34,950 |
|
|
35,842 |
|
|
36,807 |
|
$ |
(892) |
|
(2.5) |
|
|
Tangible common stockholders' equity (non-GAAP) |
|
$ |
268,313 |
|
$ |
258,790 |
|
$ |
246,474 |
|
$ |
9,523 |
|
3.7 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total common shares outstanding at end of period |
|
|
18,794,586 |
|
|
18,744,710 |
|
|
18,715,678 |
|
|
49,876 |
|
0.3 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Book value per common share (GAAP) |
|
$ |
16.14 |
|
$ |
15.72 |
|
$ |
15.14 |
|
$ |
0.42 |
|
2.7 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Tangible book value per common share (non-GAAP) |
|
$ |
14.28 |
|
$ |
13.81 |
|
$ |
13.17 |
|
$ |
0.47 |
|
3.4 |
% |
36
Portfolio Loans and Related Asset Quality Ratios
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
December 31, |
|
June 30, |
|
Jun 2021 vs Dec 2020 |
|
||||||
|
(in thousands) |
|
2021 |
|
2020 |
|
2020 |
|
$ Change |
|
% Change |
|
||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total loans and leases (GAAP) |
|
$ |
1,942,507 |
|
$ |
1,865,961 |
|
$ |
1,898,630 |
|
$ |
76,546 |
|
4.1 |
% |
|
Subtract PPP loans, net |
|
|
142,660 |
|
|
167,639 |
|
|
193,719 |
|
|
(24,979) |
|
(14.9) |
|
|
Total portfolio loans (non-GAAP) |
|
$ |
1,799,847 |
|
$ |
1,698,322 |
|
$ |
1,704,911 |
|
$ |
101,525 |
|
6.0 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nonperforming loans |
|
$ |
16,219 |
|
$ |
19,430 |
|
$ |
18,469 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As a % of: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total loans and leases (GAAP) |
|
|
0.83 |
% |
|
1.04 |
% |
|
0.97 |
% |
|
|
|
|
|
|
Portfolio loans (non-GAAP) |
|
|
0.90 |
|
|
1.14 |
|
|
1.08 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance for loan and lease losses |
|
$ |
18,288 |
|
$ |
19,162 |
|
$ |
16,356 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As a % of: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total loans and leases (GAAP) |
|
|
0.94 |
% |
|
1.03 |
% |
|
0.86 |
% |
|
|
|
|
|
|
Portfolio loans (non-GAAP) |
|
|
1.02 |
|
|
1.13 |
|
|
0.96 |
|
|
|
|
|
|
Financial Highlights
Financial highlights during the six and three months ended June 30, 2021 are as follows:
| ● | We reported net income of $13.7 million, or $0.72 per diluted common share, for the six months ended June 30, 2021 compared to a net loss of $26.1 million, or a loss of $1.39 per diluted common share, for the six months ended June 30, 2020. The first six months of 2020 included a goodwill impairment charge, which was not tax deductible, of $34.5 million, or a loss of $1.84 per diluted share, recorded in the second quarter of 2020. |
| ● | We reported net income of $7.5 million, or $0.40 per diluted common share, in the second quarter of 2021 compared to a net loss of $29.4 million, or a loss of $1.57 per diluted common share, in the second quarter of 2020. |
| ● | Our allowance was 0.94% of total loans and leases and 1.02% of portfolio loans (a non-GAAP financial measure – refer to the section “Use of Non-GAAP Financial Measures and Related Reconciliations” for additional detail) at June 30, 2021, compared to 1.03% of total loans and leases and 1.13% of portfolio loans at December 31, 2020. |
| ● | No provision for credit losses was recorded during the second quarter of 2021, compared to $3.0 million in the second quarter of 2020 and $1.0 million in the first quarter of 2021. Our total provision for credit losses for the first six months of 2021 was $1.0 million compared to $6.4 million for the first six months of 2020. |
| ● | Our net interest margin was 3.41% in the first six months of 2021, an increase of 13 basis points (“bp”) from the first six months of 2020, with 9 bp of the increase attributable to the impact of PPP loans. For the second quarter of 2021, our net interest margin was 3.39%, an increase of 17 bp from the second quarter of 2020, with 10 bp of the increase attributable to the impact of PPP loans. |
| ● | Total assets were $2.60 billion at June 30, 2021, up $61.6 million from $2.54 billion at December 31, 2020. |
| ● | Total loans and leases were $1.94 billion at June 30, 2021, up $76.5 million from December 31, 2020. Portfolio loans were $1.80 billion at June 30, 2021, an increase of $101.5 million from December 31, 2020. Total loans declined by $4.9 million during the quarter ended June 30, 2021, with PPP loans down $58.9 million partially offset by a $54.0 million increase in portfolio loans. |
37
| ● | Total deposits were $2.03 billion at June 30, 2021, up $50.1 million from December 31, 2020, with customer deposits up $97.5 million. |
| ● | Our return on average assets (“ROA”) and return on average equity (“ROE”) were 1.07% and 9.22%, respectively, for the first six months of 2021 compared to negative ratios due to the impact of the goodwill impairment charge for the first six months of 2020. Our ROA and ROE were 1.16% and 9.96%, respectively, for the second quarter of 2021 compared to 0.99% and 8.46%, respectively for the first quarter of 2021. |
| ● | We remained “well capitalized” by all regulatory measures at June 30, 2021. |
| ● | Our book value per common share was $16.14 at June 30, 2021, an increase of $0.42 per share from December 31, 2020. Earnings per share (“EPS”) of $0.72 (diluted) for the first six months of 2021 were partially offset by a decrease in accumulated other comprehensive income (“AOCI”) of $0.29 per share. |
| ● | Our tangible book value per common share (a non-GAAP financial measure – refer to the “Use of Non-GAAP Financial Measures and Related Reconciliations” for additional detail) was $14.28 per share at June 30, 2021, an increase of $0.47 per share from December 31, 2020, resulting from diluted EPS of $0.72 for the first six months of 2021 partially offset by the decrease in AOCI of $0.29 per share. |
Critical Accounting Policies
Our accounting and financial reporting policies conform to GAAP and general practice within the banking industry. These policies require management to exercise significant judgment or discretion or make significant assumptions and estimates based on the information available that have, or could have, a material impact on the carrying value of certain assets or on income. These estimates and assumptions affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of income and expenses during the periods presented. In reviewing and understanding financial information for us, you are encouraged to read and understand the significant accounting policies used in preparing our financial statements.
Certain accounting measurements inherently have a greater reliance on the use of estimates, assumptions and judgments and, as such, have a greater possibility of producing results that could be materially different than originally reported. The accounting policies we view as requiring the most significant estimates, our critical accounting policies, are those relating to the allowance for loan and lease losses, the valuation of goodwill and other intangible assets, and income taxes. These critical accounting policies and the significant assumptions and estimates made by management related to them are more fully described in “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Policies” in our Annual Report on Form 10-K for the year ended December 31, 2020. Our significant accounting policies are discussed in the “Notes to Consolidated Financial Statements - Note 1: Summary of Significant Accounting Policies” in our Annual Report on Form 10-K for the year ended December 31, 2020. There have been no material changes to the significant accounting policies or critical accounting policies as described in the Annual Report on Form 10-K for the year ended December 31, 2020. Disclosures regarding the effects of new accounting pronouncements are included in Note 1 of this report.
Financial Condition
A comparison between June 30, 2021 and December 31, 2020 balance sheets is presented below.
38
General
Total assets increased $61.6 million, or 2.4%, to $2.60 billion at June 30, 2021 compared to $2.54 billion at December 31, 2020. Our asset growth consisted primarily of increases in our total loans and leases of $76.5 million, with $101.5 million of this growth in portfolio loans, which excludes PPP loans (a non-GAAP financial measure – refer to the “Use of Non-GAAP Financial Measures and Related Reconciliations” for additional detail), while PPP loans decreased $25.0 million. The primary source of funding our net asset growth was deposits. Total deposits increased by $50.1 million, including an increase in customer deposits of $97.5 million. Borrowings increased by $5.1 million, primarily as a result of an increase of $5.0 million in Federal Home Loan Bank of Atlanta (“FHLB”) borrowings. Total stockholders' equity increased by $8.6 million due primarily to net income of $13.7 million partially offset by a decrease of $5.5 million in AOCI.
Investment Securities
The following table sets forth the composition of our investment securities portfolio at the dates indicated.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands) |
|
June 30, 2021 |
|
December 31, 2020 |
|
2021 vs. 2020 |
|
|||||||||||
|
|
|
Amortized |
|
Estimated |
|
Amortized |
|
Estimated |
|
$ Change in |
|
|
|
|||||
|
|
|
Cost |
|
Fair Value |
|
Cost |
|
Fair Value |
|
Fair Value |
|
% Change |
|
|||||
|
Available for sale |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S. Government |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Agencies |
|
$ |
41,257 |
|
$ |
42,144 |
|
$ |
48,297 |
|
$ |
49,605 |
|
$ |
(7,461) |
|
(15.0) |
% |
|
Mortgage-backed |
|
|
317,380 |
|
|
316,470 |
|
|
310,289 |
|
|
316,672 |
|
|
(202) |
|
(0.1) |
|
|
Other investments |
|
|
9,008 |
|
|
9,259 |
|
|
9,008 |
|
|
9,120 |
|
|
139 |
|
1.5 |
|
|
|
|
$ |
367,645 |
|
$ |
367,873 |
|
$ |
367,594 |
|
$ |
375,397 |
|
$ |
(7,524) |
|
(2.0) |
% |
|
Held to maturity |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate debentures |
|
$ |
6,000 |
|
$ |
6,028 |
|
$ |
7,250 |
|
$ |
7,235 |
|
$ |
(1,207) |
|
(16.7) |
% |
Available for sale
Our available for sale securities are reported at fair value. At both June 30, 2021 and December 31, 2020, we held U.S. agency debentures, mortgage backed securities (“MBS”), and corporate debentures. This portfolio is used primarily to provide sufficient liquidity to fund our loans and provide funds for withdrawals of deposits. In addition, this portfolio is used as collateral for borrowings such as commercial customer overnight securities sold under agreement to repurchase (“repurchase agreements”) and as a source of earnings. At June 30, 2021 and December 31, 2020, $242.3 million and $226.2 million in fair value of available for sale securities, respectively, were pledged as collateral for both repurchase agreements and deposits of local government entities that require pledged collateral as a condition of maintaining these deposit accounts.
Available for sale securities were $367.9 million at June 30, 2021, a decrease of $7.5 million, or 2.0% from December 31, 2020. Available for sale securities, at amortized cost, were $367.6 million at June 30, 2021, a $51 thousand increase from December 31, 2020.
Our available for sale securities portfolio contained 59 securities with unrealized losses of $3.2 million at June 30, 2021, and 11 securities with unrealized losses of $58 thousand at December 31, 2020. Changes in the fair value of these securities resulted primarily from interest rate fluctuations. We neither intend to sell these securities nor is it more likely than not that we would be required to sell these securities before their anticipated recovery. Furthermore, we believe the collection of the investment and related interest is probable. Based on this analysis, we do not consider any of the unrealized losses to be other-than-temporary impairment. Note 2 to our Condensed Consolidated Financial Statements provides more detail concerning the composition of our portfolio and our process for evaluating the portfolio for other-than-temporary impairment.
39
Held to maturity
Held to maturity securities are reported at amortized cost. The only investments that we have classified as held to maturity are certain corporate debentures. These investments are intended to be held until maturity.
There was one held to maturity security in an unrealized loss position of $2 thousand at June 30, 2021, compared to three securities in an unrealized loss position totaling $32 thousand at December 31, 2020. Based on our analysis of these securities, we do not consider the unrealized losses to be other-than-temporary impairment. We had two held to maturity securities totaling $1.5 million called in the first six months of 2021. Note 2 to our Condensed Consolidated Financial Statements provides more detail concerning the composition of our portfolio and our process for evaluating the portfolio for other-than-temporary impairment.
Nonmarketable Equity Securities
We held an investment in stock of the FHLB at June 30, 2021 and December 31, 2020 of $9.0 million and $10.6 million, respectively. This investment is required for continued FHLB membership and is based partially upon the amount of borrowings outstanding from the FHLB. This FHLB stock is carried at cost which approximates fair value.
Loan and Lease Portfolio
Total loans and leases (hereinafter referred to as “loans”) increased $76.5 million, or 4.1%, to $1.94 billion at June 30, 2021 from $1.87 billion at December 31, 2020. At June 30, 2021, PPP loans totaled $142.7 million, a $25.0 million decrease from December 31, 2020. We originated $100.5 million of PPP loans during the first six months of 2021 while PPP loans forgiven totaled $125.0 million during the first six months of 2021. Our portfolio loans, which exclude PPP loans (a non-GAAP financial measure – refer to the “Use of Non-GAAP Financial Measures and Related Reconciliations” section for additional detail), increased by $101.5 million, or 6.0%, to $1.80 billion at June 30, 2021 from $1.70 billion at December 31, 2020.
The $101.5 million increase in portfolio loans was primarily driven by growth in commercial real estate loans (“CRE”), residential real estate first lien loans (“residential mortgage”), commercial loans and leases (“C&I”), and consumer loans. Loan originations and purchases of $284.3 million during the first six months of 2021 were partially offset by $182.8 million in loan maturities, payoffs, partial paydowns, and lower line utilization. Residential mortgage loans were up $27.5 million, or 7.2%, with secondary market loan purchases of $91.7 million partially offset by $64.2 million of prepayments. C&I loans were up $23.7 million, or 7.1%, CRE loans were up $32.0 million, or 4.3%, and consumer loans were up $21.4 million, or 33.4%, reflecting continued success in some niche lending activities.
The following table sets forth the composition of our loan portfolio at the dates indicated.
|
(1) |
Includes equipment financing leases of $2,431 and $3,597 at June 30, 2021 and December 31, 2020, respectively |
40
|
(2) |
Denotes a non-GAAP measure - refer to the section “Use of Non-GAAP Financial Measures and Related Reconciliations” for additional detail |
Interest-Bearing Deposits with Banks
Interest-bearing deposits with banks, primarily with the Federal Reserve Bank of Richmond, were $59.8 million at June 30, 2021, a decrease of $5.4 million from $65.2 million at December 31, 2020. Since the Board of Governors of the Federal Reserve System reduced the reserve requirement to zero percent in March 2020 due to COVID-19, we continue to actively manage our interest-bearing deposits with banks at levels lower than they were prior to the pandemic.
Deposits
Total deposits were $2.03 billion at June 30, 2021, a $50.1 million, or 2.5%, increase from $1.98 billion at December 31, 2020. Customer deposits, which excludes brokered and other non-customer deposits, were up $97.5 million, or 5.7%, at June 30, 2021, compared to December 31, 2020. Low-cost, non-maturity deposits increased by $115.6 million, or 7.8%, at June 30, 2021, compared to December 31, 2020. $95.9 million of the growth was in transaction accounts (noninterest-bearing demand and interest-bearing checking), with $101.6 million of the transaction account growth in noninterest-bearing demand deposits. The increase in non-maturity deposits was partially offset by the continued managed decline in customer CD balances, down $47.9 million, or 20.4%, at June 30, 2021, compared to December 31, 2020. The Company continues to manage for lower retention rates on maturing CDs with substantially higher rates than current market rates. Our strategy is to not offer above-market renewal rates on non-transactional, non-relationship deposits. Brokered and other non-customer deposits were $231.8 million at June 30, 2021, a decrease of $47.4 million when compared to $279.2 million at December 31, 2020. Non-customer deposits are currently our lowest-cost incremental funding source.
The following table sets forth the distribution of total deposits, by account type, at the dates indicated.
FHLB Advances
Our primary source of non-deposit funding is FHLB advances. We use a variety of term structures in order to manage liquidity and interest rate risk. FHLB advances were $205.0 million at June 30, 2021, an increase of $5.0 million from December 31, 2020. As of June 30, 2021, $200.0 million of FHLB advances have maturities beyond one year.
41
Stockholders’ Equity
Total stockholders’ equity was $303.3 million at June 30, 2021, an $8.6 million increase from $294.6 million at December 31, 2020. The increase in stockholders’ equity was primarily the result of net income of $13.7 million for the first six months of 2021, partially offset by a $5.5 million decrease in AOCI, which represents the after tax impact of changes in the fair value of available-for-sale securities. The decline in the fair value of available-for-sale securities was the result of the increase in intermediate and long-term treasury yields from December 31, 2020 to June 30, 2021.
Book value per common share was $16.14 at June 30, 2021, an increase of $0.42 per share since December 31, 2020, with diluted EPS of $0.72 for the first six months of 2021 partially offset by a decrease in AOCI of $0.29 per share.
Tangible stockholders’ equity (a non-GAAP financial measure – refer to the “Use of Non-GAAP Financial Measures and Related Reconciliations” section for additional detail), which deducts goodwill and other intangible assets (net of any applicable deferred tax liabilities), was $268.3 million at June 30, 2021. This compares to $258.8 million at December 31, 2020, with the $9.5 million increase primarily due to net income of $13.7 million for the first six months of 2021 and the $892 thousand after tax effect of core deposit intangible amortization, partially offset by the decrease in AOCI of $5.5 million.
Tangible book value per common share (a non-GAAP financial measure – refer to the “Use of Non-GAAP Financial Measures and Related Reconciliations” section for additional detail), which divides tangible stockholders’ equity by the number of shares outstanding, was $14.28 per share at June 30, 2021, an increase of $0.47 per share since December 31, 2020. The increase is attributable to diluted EPS of $0.72 per share for the first six months of 2021 and the effect of core deposit intangible amortization of $0.05 per share partially offset by a decrease in AOCI of $0.29 per share.
Results of Operations
A comparison of the six months ended June 30, 2021 and June 30, 2020
We reported net income of $13.7 million, or $0.73 per basic and $0.72 per diluted common share, for the six months ended June 30, 2021, compared to a net loss of $26.1 million, or a loss of $1.39 per both basic and diluted common share, for the six months ended June 30, 2020. Net income increased by $39.7 million, or $2.12 per basic and $2.11 per diluted common share, in the first six months of 2021 when compared to the first six months of 2020, primarily as a result of the following:
| ● | The first six months of 2020 included a goodwill impairment charge, which was not tax deductible, of $34.5 million (an EPS increase of $1.84 per diluted share in 2021), recorded in the second quarter of 2020. |
| ● | A $5.4 million lower provision for credit losses in the first six months of 2021 when compared to the first six months of 2020 (an EPS increase of $0.21 after tax per share in 2021); the provision for credit losses in the first half of 2020 was significantly higher as we increased our allowance for loan and lease losses in response to the initial impacts of the pandemic. |
| ● | PPP loan pretax income of $3.7 million for the first six months of 2021 compared to $896 thousand for the first six months of 2020 (an EPS increase of $0.11 after tax per share in 2021); the PPP program didn’t start until the second quarter of 2020. |
| ● | The first six months of 2020 included $788 thousand of noninterest expenses attributable to the departure of our former CFO (an EPS increase of $0.03 after tax per share in 2021), recorded in the first quarter of 2020; there was no comparable item in the first six months of 2021. |
| ● | The first six months of 2020 included a $1.0 million litigation accrual (an EPS increase of $0.04 after tax per share in 2021), recorded in the second quarter of 2020; there was no comparable item in the first six months of 2021. |
42
| ● | The first six months of 2020 included a $224 thousand prepayment penalty on FHLB advances (an EPS increase of $0.01 after tax per share in 2021), recorded in the second quarter of 2020; there was no comparable item in the first six months of 2021. |
These items were partially offset by:
| ● | The first six months of 2020 included an income tax benefit of $1.2 million (an EPS decrease of $0.07 per share in 2021), recorded in the first quarter of 2020, resulting from a net operating loss carryback provision in the CARES Act; there was no comparable item in the first six months of 2021. |
| ● | The first six months of 2020 included $3.0 million in securities gains (an EPS decrease of $0.12 after tax per share in 2021); there were no securities gains in the first six months of 2021. |
| ● | The first six months of 2020 included $130 thousand in pretax income (an EPS decrease of $0.01 after tax per share in 2021) from our former mortgage banking activities, which were concluded in the first six months of 2020. |
Net Interest Income
Net interest income for the first six months of 2021 was $39.8 million, an increase of $4.1 million from the first six months of 2020. Our net interest margin was 3.41% for the first six months of 2021, an increase of 13 bp from 3.28% for the first six months of 2020. Average earning assets for the first six months of 2021 were $2.35 billion, an increase of $163.1 million, or 7.5%, from the first six months of 2020. Total interest income decreased by $1.1 million in the first six months of 2021, compared to the like period in 2020, resulting from the 36 bp decrease in the yield on our average earning assets, which more than offset the benefit attributable to the growth in average earning assets.
Our average interest-bearing liabilities for the first six months of 2021 were $1.51 billion, a decrease of $52.9 million, or 3.4%, from the first six months of 2020. Total interest expense decreased by $5.2 million in the first six months of 2021, when compared to the like period in 2020, as the average rate paid on our interest-bearing liabilities decreased by 66 bp and average interest bearing liabilities decreased by $52.9 million. The net accretion of fair value adjustments on acquired loans added 12 bp to our net interest margin and 15 bp to our average yield on loans in the first six months of 2021, an increase from the first six months of 2020 of 7 bp and 9 bp, respectively. We expect the impact of this net accretion to decrease in future periods. PPP loans, with an average yield of 4.41% and an interest spread (net of an assumed funding cost at 0.35%) of 4.06%, increased our net interest margin by 5 bp in the first six months of 2021; this compared to an average yield of 2.52% and an interest spread (net of an assumed funding cost at 0.35%) of 2.17%, which decreased our net interest margin by 4 bp in the first six months of 2020.
Interest Income
Interest income decreased by $1.1 million, or 2.5%, to $42.6 million for the first six months of 2021 compared to $43.7 million for the first six months of 2020. Interest income on loans and leases decreased by $148 thousand, or 0.4%, while average loans increased by $97.9 million, or 5.4%, to $1.92 billion in the first six months of 2021 compared to the first six months of 2020. The average yield on loans was 4.14% in the first six months of 2021, down 23 bp from 4.37% for the first six months of 2020, primarily driven by the lower interest rate environment. PPP loan interest income was $4.0 million in the first six months of 2021 compared to $896 thousand in the first six months of 2020; the PPP program began in the second quarter of 2020. PPP loans increased our average loan yield by 2 bp in the first six months of 2021 but decreased our average loan yield by 8 bp in the first six months of 2020. The average yield on available for sale securities decreased by 97 bp to 1.53% in the first six months of 2021, as securities purchases were at substantially lower market rates. The average balance of available for sale securities increased by $124.5 million, or 49.5%, in the first six months of 2021, compared to the first six months of 2020, with $149.6 million of this increase in our MBS portfolio. The average yield on our interest-bearing deposits in banks fell 54 bp to 0.06% in the first six months of 2021, compared to the same period in 2020, reflective of the significant decline in market rates of interest.
43
Interest Expense
Interest expense decreased by $5.2 million, or 64.7%, to $2.8 million for the first six months of 2021, compared to $8.1 million for the same period in 2020. The average rate on our interest-bearing liabilities decreased by 66 bp to 0.38% for the first six months of 2021 compared to the first six months of 2020. Interest expense on deposits decreased by $4.5 million for the first six months of 2021 compared to the first six months of 2020; our average interest-bearing deposits increased by $28.2 million while the average rate on interest-bearing deposits decreased by 74 bp. We lowered the interest rates paid on interest-bearing deposits in response to the lower prevailing competitive market rates starting in late February 2020, with the full impact of those rate reductions expected to be reflected in future periods as maturing time deposits reprice at lower market interest rates. In addition, our interest expense on FHLB advances decreased by $648 thousand and the average balance decreased by $81.4 million in the first six months of 2021 compared to the first six months of 2020. The average rate paid on FHLB advances, at 0.86% for the first six months of 2021, decreased by 21 bp when compared to the same period in 2020.
44
Average Balances, Yields and Rates
The following table sets forth average balances, annualized yields and rates, and certain other information for the periods indicated. No tax-equivalent yield adjustments were made, as the effect thereof was not material. All average balances are daily average balances. Nonaccrual loans were included in the computation of average balances, and have been reflected in the table as loans carrying a zero yield. The yields set forth below include the effect of deferred fees, discounts and premiums that are amortized or accreted to interest income or expense as well as any amortization and accretion of fair value adjustments.
45
| (1) | Loan fee income is included in the interest income calculation, and nonaccrual loans are included in the average loan balance; they have been reflected as loans carrying a zero yield. |
| (2) | Available for sale securities are presented at fair value, held to maturity securities are presented at amortized cost. |
| (3) | Net interest rate spread represents the difference between the yield on average earning assets and the cost of average interest-bearing liabilities. |
| (4) | Net interest margin represents net interest income divided by average total earning assets. |
Rate/Volume Analysis
The following table presents the effects of changing rates and volumes on our net interest income for the periods indicated. The rate column shows the effects attributable to changes in rate (changes in rate multiplied by prior volume). The volume column shows the effects attributable to changes in volume (changes in volume multiplied by prior rate) as well as any impact of number of days and mix.
46
The total of the changes set forth in the rate and volume columns are presented in the total column.
Provision for Credit Losses
We recorded a provision for credit losses of $1.0 million for the first six months of 2021, compared to $6.4 million for the first six months of 2020, a decrease of $5.4 million. The higher provision for credit losses in the first six months of 2020 reflected the rapidly changing economic environment and uncertainty resulting from the COVID-19 pandemic. For the first six months of 2021, the provision for credit losses, net of net charge-offs of $1.9 million, resulted in a decrease in the allowance for loan and lease losses of $874 thousand. For the first six months of 2020, the provision for credit losses, net of net charge-offs of $490 thousand, resulted in an increase in the allowance for loan and lease losses of $6.0 million. Our allowance for loan and lease losses is more fully discussed below under the sections entitled “Nonperforming and Problem Assets; COVID-19 Related Loan Deferrals” and “Allowance for Loan and Lease Losses” of this MD&A.
47
Noninterest Income
The following table presents the major categories of noninterest income for the six months ended June 30, 2021 and 2020:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended |
|
|
|
|
|
|
||||
|
|
|
June 30, |
|
|
|
|
|
|
||||
|
(in thousands) |
|
2021 |
|
2020 |
|
$ Change |
|
% Change |
|
|||
|
Service charges on deposit accounts |
|
$ |
1,193 |
|
$ |
1,075 |
|
$ |
118 |
|
11.0 |
% |
|
Realized and unrealized gains on mortgage banking activity |
|
|
— |
|
|
1,036 |
|
|
(1,036) |
|
(100.0) |
|
|
Gain on the sale of securities |
|
|
— |
|
|
3,044 |
|
|
(3,044) |
|
(100.0) |
|
|
Income from bank owned life insurance |
|
|
845 |
|
|
886 |
|
|
(41) |
|
(4.6) |
|
|
Loan related fees and service charges |
|
|
568 |
|
|
755 |
|
|
(187) |
|
(24.8) |
|
|
Other operating income |
|
|
1,816 |
|
|
1,329 |
|
|
487 |
|
36.6 |
|
|
Total noninterest income |
|
$ |
4,422 |
|
$ |
8,125 |
|
$ |
(3,703) |
|
(45.6) |
% |
Noninterest income was $4.4 million for the six months ended June 30, 2021, a decrease of $3.7 million, or 45.6%, compared to $8.1 million for the same period in 2020. The primary drivers of this decrease in the first six months of 2021 were a $3.0 million decrease in gains on the sale of securities and a $1.4 million decrease in noninterest income attributable to our former mortgage banking activities. The noninterest income from our former mortgage banking activities, consisting of $1.0 million of realized and unrealized gains on mortgage banking activity and $389 thousand in loan related fees and service charges, was all recorded in the first quarter of 2020. There was no noninterest income from either securities gains or our former mortgage banking activities in the first six months of 2021. Noninterest income other than from securities gains and from mortgage banking activities for the first six months of 2021 increased by $766 thousand, or 21.0%, from the first six months of 2020.
Service charges on deposit accounts, which consist of account activity fees such as nonsufficient funds (”NSF”) and overdraft fees in addition to other standard deposit fees, increased $118 thousand in the first six months of 2021, compared to the first six months of 2020. While our standard deposit fees were up $258 thousand in the first six months of 2021, NSF and overdraft fees were down $141 thousand from the first six months of 2020, with a portion of this reduction representing accommodations to COVID-19 impacted customers in the current economic environment and higher liquidity maintained by other customers.
Loan related fees and service charges were $568 thousand in the first six months of 2021, a decrease of $187 thousand from the first six months of 2020. Loan related fees and service charges, other than from our former mortgage banking activities for the first six months of 2020, increased by $202 thousand, or 55.1%, when compared to the first six months of 2020, due to increased lending activity.
Other operating income, which consists mainly of non-depository account fees such as interchange, wire, merchant card and ATM services, increased $487 thousand in the first six months of 2021 compared to the first six months of 2020. The primary driver was a $305 thousand increase in interchange fees, as consumer spending and card utilization increased from the first six months 2020, when spending and card utilization were adversely impacted by the initial drop in economic activity due to the pandemic.
48
Noninterest Expenses
The following table presents the major categories of noninterest expense for the six months ended June 30, 2021 and 2020:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended |
|
|
|
|
|
|
||||
|
|
|
June 30, |
|
|
|
|
|
|
||||
|
(in thousands) |
|
|
2021 |
|
|
2020 |
|
$ Change |
|
% Change |
|
|
|
Compensation and benefits |
|
$ |
14,065 |
|
$ |
14,700 |
|
$ |
(635) |
|
(4.3) |
% |
|
Occupancy and equipment |
|
|
2,643 |
|
|
2,275 |
|
|
368 |
|
16.2 |
|
|
Marketing and business development |
|
|
638 |
|
|
903 |
|
|
(265) |
|
(29.3) |
|
|
Professional fees |
|
|
1,543 |
|
|
1,360 |
|
|
183 |
|
13.5 |
|
|
Data processing fees |
|
|
1,866 |
|
|
1,776 |
|
|
90 |
|
5.1 |
|
|
FDIC assessment |
|
|
466 |
|
|
397 |
|
|
69 |
|
17.4 |
|
|
Other real estate owned |
|
|
40 |
|
|
346 |
|
|
(306) |
|
(88.4) |
|
|
Loan production expense |
|
|
335 |
|
|
660 |
|
|
(325) |
|
(49.2) |
|
|
Amortization of core deposit intangible |
|
|
1,209 |
|
|
1,379 |
|
|
(170) |
|
(12.3) |
|
|
Other operating expense |
|
|
1,834 |
|
|
3,891 |
|
|
(2,057) |
|
(52.9) |
|
|
Total noninterest expense before goodwill impairment |
|
|
24,639 |
|
|
27,687 |
|
|
(3,048) |
|
(11.0) |
|
|
Goodwill impairment |
|
|
— |
|
|
34,500 |
|
|
(34,500) |
|
(100.0) |
|
|
Total noninterest expense |
|
$ |
24,639 |
|
$ |
62,187 |
|
$ |
(37,548) |
|
(60.4) |
% |
Noninterest expenses were $24.6 million for the first six months of 2021, a decrease of $37.5 million, or 60.4%, compared to $62.2 million for the first six months of 2020. The decrease was primary attributable to the $34.5 million goodwill impairment charge recorded in the second quarter of 2020; there was no additional goodwill impairment charge in the first six months of 2021. In addition, noninterest expenses attributable to our former mortgage banking activities were $1.4 million in the first six months of 2020, primarily consisting of $928 thousand in compensation and benefits expense, $259 thousand in loan production expense, and $251 thousand in all other expense categories. There were no noninterest expenses from our former mortgage banking activities in the first six months of 2021. Noninterest expenses in the first six months of 2021, other than from the goodwill impairment charge and our former mortgage banking activities, decreased by $1.6 million, or 6.1%, from the first six months of 2020.
Compensation and benefits expense is typically the largest component of our noninterest expense. Compensation and benefits expense other than from our former mortgage banking activities increased by $293 thousand, or 2.1%, in the first six months of 2021, compared to the same period in 2020. The first six months of 2020 included $698 thousand of additional compensation expense attributable to the departure of our former CFO, recorded in the first quarter of 2020.
Occupancy and equipment expense increased by $368 thousand in the first six months of 2021, compared to the first six months of 2020. The first six months of 2021 included $152 thousand of non-capitalizable branch renovation costs, a higher level of ongoing incremental expenses associated with COVID-19 deep cleaning efforts, and a higher level of snow removal expenses when compared to the first six months of 2020, partially offset by a reduction in rental expenses as a result of our branch closures in early 2021. In addition, the first six months of 2020 included $224 thousand of branch closing cost accrual reversals related to a favorable lease termination.
Our marketing and business development expenses decreased by $265 thousand in the first six months of 2021, driven primarily by a lower level of corporate sponsorships and the impact of COVID-19 that resulted in lower expenses for customer and non-customer direct contact.
OREO expense decreased $306 thousand in the first six months of 2021, primarily as a result of a $257 thousand OREO valuation allowance recorded in the first six months of 2020 with no valuation allowance recorded in 2021.
49
Other operating expense decreased by $2.1 million in the first six months of 2021. Other operating expense consists mainly of a variety of general expenses such as telephone and data lines, supplies and postage, courier services, general insurance, director fees, and miscellaneous losses. Included in other operating expense for the first six months of 2020 was a $1.0 million litigation accrual stemming from certain mortgages originated by First Mariner Bank before its merger with Howard Bank, $224 thousand in prepayment penalties on FHLB advances, and $403 thousand of additional expenses that were the result of the reevaluation of certain expense accruals in the first quarter of 2020.
Income Tax Expense
For the first six months of 2021, we recorded an income tax expense of $4.9 million compared to an income tax expense of $1.2 million in the first six months of 2020. The first six months of 2020 was favorably impacted by certain provisions of the CARES Act that was signed into law on March 27, 2020. The CARES Act permits corporate taxpayers to recover prior period taxes paid by carrying back net operating losses incurred in tax years ending after December 31, 2017 to tax years ending up to five years earlier. As a result, we were able to carryback the 2018 tax net operating loss of $9.1 million to tax years 2013-2015. The $1.2 million carryback tax benefit represents the difference between the current federal statutory tax rate of 21% and the 34% statutory federal tax rate applicable during the carryback years. Our effective tax rate for the first six months of 2021 was 26.4% compared to an effective tax rate -4.8% for the first six months of 2020; outside the impact of the $34.5 million non-deductible goodwill impairment charge and the $1.2 million benefit from the CARES Act, the effective tax rate for the first six months of 2020 would have been 24.7%.
A comparison of the three months ended June 30, 2021 and June 30, 2020
We reported net income of $7.5 million, or $0.40 per both basic and diluted common share, for the three months ended June 30, 2021, compared to a net loss for the three months ended June 30, 2020 of $29.4 million, or a loss of $1.57 per both basic and diluted common share. Net income increased by $36.9 million, or $1.97 per both basic and diluted common share, in the second quarter of 2021 when compared to the second quarter of 2020, primarily as a result of the following:
| ● | The second quarter of 2020 included a goodwill impairment charge, which was not tax deductible, of $34.5 million (an increase in 2021 of $1.84 per diluted share). |
| ● | No provision for credit losses was recorded in the second quarter of 2021, compared to a $3.0 million provision for credit losses in the second quarter of 2020 (an increase in 2021 of $0.12 after tax per share). |
| ● | PPP loan pretax income of $1.6 million for the second quarter of 2021 was $613 thousand higher than the $1.0 million of PPP loan pretax income for the second quarter of 2020 (an increase in 2021 of $0.02 after tax per share). |
| ● | The second quarter of 2020 included a $1.0 million litigation accrual (an increase in 2021 of $0.04 after tax per share); there was no comparable item in the second quarter of 2021. |
| ● | The second quarter of 2020 included a $224 thousand prepayment penalty on FHLB advances (an increase in 2021 of $0.01 after tax per share); there was no comparable item in the first six months of 2021. |
These items were partially offset by:
| ● | The second quarter of 2020 included $3.0 million in securities gains (a decrease in 2021 of $0.12 after tax per share); there were no securities gains in the second quarter of 2021. |
50
Net Interest Income
Net interest income for the second quarter of 2021 was $20.1 million, an increase of $2.0 million from the second quarter of 2020. Our net interest margin was 3.39% for the second quarter of 2021, an increase of 17 bp from 3.22% for the second quarter of 2020. Average earning assets for the second quarter of 2021 were $2.37 billion, an increase of $109.5 million, or 4.8%, from the second quarter of 2020. Total interest income decreased $92 thousand in the second quarter of 2021, compared to the like period in 2020, resulting from the 20 bp decrease in the yield on our average earning assets, which more than offset the benefit attributable to the growth in average earning assets.
Our average interest-bearing liabilities for the second quarter of 2021 were $1.49 billion, a decrease of $60.3 million, or 3.9%, from the second quarter of 2020. Total interest expense decreased by $2.1 million in the second quarter of 2021, when compared to the like period in 2020, as the average rate paid on our interest-bearing liabilities decreased by 52 bp. The net accretion of fair value adjustments on acquired loans added 12 bp to our net interest margin and 13 bp to our average yield on loans in the second quarter of 2021, an increase from the first second quarter of 2020 of 2 bp and 1 bp, respectively. We expect the impact of this net accretion to decrease in future periods. PPP loans, with an average yield of 4.01% and an interest spread (net of an assumed funding cost at 0.35%) of 3.66%, increased our net interest margin by 2 bp in the second quarter of 2021; this compared to an average yield of 2.53% and an interest spread (net of an assumed funding cost at 0.35%) of 2.18%, which decreased our net interest margin by 8 bp in the second quarter of 2020.
Interest Income
Interest income decreased by $92 thousand, or 0.4%, to $21.4 million for the second quarter of 2021 compared to $21.5 million for the second quarter of 2020. Interest income on loans and leases increased by $148 thousand, or 0.8%, while average loans increased by $56.5 million, or 3.0%, to $1.94 billion in the second quarter of 2021 compared to the second quarter of 2020. The average yield on loans was 4.07% in the second quarter of 2021, down 11 bp from 4.18% for the second quarter of 2020, primarily driven by the lower interest rate environment. PPP loan interest income was $1.8 million in the second quarter of 2021 compared to $896 thousand in the second quarter of 2020. PPP loans reduced our average loan yield in the second quarter of 2021 and the second quarter of 2020 by 1 bp and 13 bp, respectively. The average yield on available for sale securities decreased by 69 bp to 1.60% in the second quarter of 2021, as purchases were at substantially lower market rates. The average balance of available for sale securities increased by $100.4 million, or 36.5%, in the second quarter of 2021, compared to the second quarter of 2020, with $131.5 million of this increase in our MBS portfolio.
Interest Expense
Interest expense decreased by $2.1 million, or 61.2%, to $1.3 million for the second quarter of 2021, compared to $3.4 million for the same period in 2020. The average rate on our interest-bearing liabilities decreased by 52 bp to 0.35% for the second quarter of 2021 compared to the second quarter of 2020. Interest expense on deposits decreased by $2.0 million for the second quarter of 2021 compared to the second quarter of 2020; our average interest-bearing deposits decreased by $4.9 million while the average rate on interest-bearing deposits decreased by 64 bp. We lowered the interest rates paid on interest-bearing deposits in response to the lower prevailing competitive market rates starting in late February 2020, with the full impact of those rate reductions expected to be reflected in future periods as maturing time deposits reprice at lower market interest rates. In addition, our interest expense on FHLB advances decreased by $63 thousand and the average balance of FHLB advances decreased by $49.7 million in the second quarter of 2021 compared to the second quarter of 2020. The average rate paid on FHLB advances, at 0.86% for the second quarter of 2021, increased by 6 bp when compared to the same period in 2020. This increase was the result of a lower balance of low rate, short-term FHLB advances in the second quarter of 2021 when compared to the same period in 2020.
51
Average Balances, Yields and Rates
The following table sets forth average balances, annualized yields and rates, and certain other information for the periods indicated. No tax-equivalent yield adjustments were made, as the effect thereof was not material. All average balances are daily average balances. Nonaccrual loans were included in the computation of average balances, and have been reflected in the table as loans carrying a zero yield. The yields set forth below include the effect of deferred fees, discounts and premiums that are amortized or accreted to interest income or expense as well as any amortization and accretion of fair value adjustments.
52
| (1) | Loan fee income is included in the interest income calculation, and nonaccrual loans are included in the average loan balance; they have been reflected as loans carrying a zero yield. |
| (2) | Available for sale securities are presented at fair value, held to maturity securities are presented at amortized cost. |
| (3) | Net interest rate spread represents the difference between the yield on average earning assets and the cost of average interest-bearing liabilities. |
| (4) | Net interest margin represents net interest income divided by average total earning assets. |
Rate/Volume Analysis
The following table presents the effects of changing rates and volumes on our net interest income for the periods indicated. The rate column shows the effects attributable to changes in rate (changes in rate multiplied by prior volume). The volume column shows the effects attributable to changes in volume (changes in volume multiplied by prior rate) as well as any impact of number of days and mix.
53
The total of the changes set forth in the rate and volume columns are presented in the total column.
Provision for Credit Losses
No provision for credit losses was recorded in the second quarter of 2021 compared to a $3.0 million provision for the second quarter of 2020. The higher provision for credit losses in the second quarter 2020 reflected the rapidly changing economic environment and uncertainty resulting from the COVID-19 pandemic. Second quarter of 2021 net charge-offs of $80 thousand resulted in an $80 thousand decrease in the allowance for loan and lease losses at June 30, 2021. For the second quarter of 2020, the $3.0 million provision for credit losses, net of net charge-offs of $28 thousand, resulted in an increase in the allowance for loan and lease losses of $3.0 million. Our allowance for loan and lease losses is more fully discussed below under the sections entitled “Nonperforming and Problem Assets; COVID-19 Related Loan Deferrals” and “Allowance for Loan and Lease Losses” of this MD&A.
54
Noninterest Income
The following table presents the major categories of noninterest income for the three months ended June 30, 2021 and 2020:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
|
|
|
|
||||
|
|
|
June 30, |
|
|
|
|
|
|
|
||||
|
(in thousands) |
|
2021 |
|
2020 |
|
$ Change |
|
% Change |
|
||||
|
Service charges on deposit accounts |
|
$ |
654 |
|
$ |
432 |
|
$ |
222 |
|
|
51.4 |
% |
|
Gain on the sale of securities |
|
|
— |
|
|
3,044 |
|
|
(3,044) |
|
|
(100.0) |
|
|
Income from bank owned life insurance |
|
|
421 |
|
|
441 |
|
|
(20) |
|
|
(4.5) |
|
|
Loan related fees and service charges |
|
|
271 |
|
|
175 |
|
|
96 |
|
|
54.9 |
|
|
Other operating income |
|
|
1,007 |
|
|
667 |
|
|
340 |
|
|
51.0 |
|
|
Total noninterest income |
|
$ |
2,353 |
|
$ |
4,759 |
|
$ |
(2,406) |
|
|
(50.6) |
% |
Noninterest income was $2.4 million for the three months ended June 30, 2021, a decrease of $2.4 million, or 50.6%, compared to $4.8 million for the same period in 2020. The primary driver of this decrease was a $3.0 million decrease in noninterest income attributable to gains on the sale of securities in the second quarter of 2020; there were no securities gains in the second quarter of 2021. Noninterest income other than from securities gains for the second quarter of 2021 increased by $638 thousand, or 37.2%, from the second quarter of 2020.
Service charges on deposit accounts, which consist of account activity fees such as nonsufficient funds (”NSF”) and overdraft fees in addition to other standard deposit fees, increased $222 thousand in the second quarter of 2021, compared to the second quarter of 2020. Our standard deposit fees were up $208 thousand in the second quarter of 2021 while NSF and overdraft fees were up $14 thousand from the second quarter of 2020.
Loan related fees and service charges were $271 thousand in the second quarter of 2021, an increase of $96 thousand from the second quarter of 2020. Increases in loan related fees and service charges were due to increased lending activity.
Other operating income, which consists mainly of non-depository account fees such as interchange, wire, merchant card and ATM services, increased $340 thousand in the second quarter of 2021 compared to the second quarter of 2020. The primary driver was a $225 thousand increase in interchange fees, as consumer spending and card utilization increased from the second quarter 2020, when spending and card utilization were adversely impacted by the initial drop in economic activity due to the pandemic.
55
Noninterest Expenses
The following table presents the major categories of noninterest expense for the three months ended June 30, 2021 and 2020:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
|
|
|
||||
|
|
|
June 30, |
|
|
|
|
|
|
||||
|
(in thousands) |
|
2021 |
|
2020 |
|
$ Change |
|
% Change |
|
|||
|
Compensation and benefits |
|
$ |
7,143 |
|
$ |
6,259 |
|
$ |
884 |
|
14.1 |
% |
|
Occupancy and equipment |
|
|
1,318 |
|
|
1,242 |
|
|
76 |
|
6.1 |
|
|
Marketing and business development |
|
|
341 |
|
|
453 |
|
|
(112) |
|
(24.7) |
|
|
Professional fees |
|
|
809 |
|
|
634 |
|
|
175 |
|
27.6 |
|
|
Data processing fees |
|
|
982 |
|
|
849 |
|
|
133 |
|
15.7 |
|
|
FDIC assessment |
|
|
171 |
|
|
236 |
|
|
(65) |
|
(27.5) |
|
|
Other real estate owned |
|
|
— |
|
|
268 |
|
|
(268) |
|
(100.0) |
|
|
Loan production expense |
|
|
181 |
|
|
192 |
|
|
(11) |
|
(5.7) |
|
|
Amortization of core deposit intangible |
|
|
594 |
|
|
680 |
|
|
(86) |
|
(12.6) |
|
|
Other operating expense |
|
|
758 |
|
|
2,315 |
|
|
(1,557) |
|
(67.3) |
|
|
Total noninterest expense before goodwill impairment |
|
|
12,297 |
|
|
13,128 |
|
|
(831) |
|
(6.3) |
|
|
Goodwill impairment |
|
|
— |
|
|
34,500 |
|
|
(34,500) |
|
(100.0) |
|
|
Total noninterest expense |
|
$ |
12,297 |
|
$ |
47,628 |
|
$ |
(35,331) |
|
(74.2) |
% |
Noninterest expenses were $12.3 million for the second quarter of 2021, a decrease of $35.3 million, or 74.2%, compared to $47.6 million for the second quarter of 2020. The decrease was primary attributable to the $34.5 million goodwill impairment charge recorded in the second quarter of 2020; there was no additional goodwill impairment charge in the second quarter of 2021. Noninterest expenses in the second quarter of 2021, other than from the goodwill impairment charge, decreased by $831 thousand, or 6.3%, from the second quarter of 2020.
Compensation and benefits expense is typically the largest component of our noninterest expense. Compensation and benefits expense increased by $884 thousand, or 14.1%, in the second quarter of 2021, compared to the same period in 2020. The higher level of compensation and benefits expense included an increase in staff costs and benefits of $544 thousand, resulting from talent acquisitions since the second quarter of 2020, including staff increases in connection with the Company’s Greater Washington initiative. In addition, loan origination internal cost deferrals attributable to the PPP program in the second quarter of 2021 were $231 thousand lower than the $242 thousand reported in the second quarter of 2020.
Occupancy and equipment expense increased by $76 thousand in the second quarter of 2021, compared to the same period in 2020. The second quarter of 2021 included $152 thousand of non-capitalizable branch renovation costs, partially offset by a $66 thousand reduction in rental expenses as a result of our branch closures in early 2021.
Professional fees increased by $175 thousand in the second quarter of 2021, compared to the same period in 2020. The second quarter of 2021 reflected a higher level of legal expenses, which increased by $167 thousand compared to the same period in 2020.
Data processing fees increased by $133 thousand in the second quarter of 2021, compared to the same period in 2020, with this increase primarily attributable to higher account and transaction volumes.
Our marketing and business development expenses decreased by $112 thousand in the second quarter of 2021, driven primarily by a lower level of corporate sponsorships and the impact of COVID-19 that resulted in lower expenses for customer and non-customer direct contact.
OREO expense decreased $268 thousand in the second quarter of 2021, primarily as a result of a $257 thousand OREO valuation allowance recorded in the second quarter of 2020; there was no valuation allowance recorded in the second quarter of 2021.
56
Other operating expense decreased by $1.6 million in the second quarter of 2021. Other operating expense consists mainly of a variety of general expenses such as telephone and data lines, supplies and postage, courier services, general insurance, director fees, and miscellaneous losses. Included in other operating expense for the second quarter of 2020 was a $1.0 million litigation accrual, stemming from certain mortgages originated by First Mariner Bank before its merger with Howard Bank, and $224 thousand in prepayment penalties on FHLB advances. In addition, fraud and other miscellaneous losses declined by $134 thousand in the second quarter of 2021.
Income Tax Expense
For the second quarter of 2021, we recorded an income tax expense of $2.7 million compared to $1.7 million in the second quarter of 2020. Our effective tax rate for the second quarter of 2021 was 26.5%. The goodwill impairment charge of $34.5 million recorded during the second quarter of 2020 was not tax deductible. Our effective tax rate for the second quarter of 2020 was -6.0%; outside the impact of the $34.5 million non-deductible goodwill impairment charge, our effective tax rate for the second quarter of 2020 would have been 24.6%.
Nonperforming and Problem Assets; COVID – Related Loan Deferrals
We perform reviews of all delinquent loans and our loan officers contact customers to attempt to resolve potential credit issues in a timely manner. Loans are placed on nonaccrual status when payment of principal or interest is 90 days or more past due and the value of the collateral securing the loan, if any, is less than the outstanding balance of the loan. Loans are also placed on nonaccrual status if we have serious doubt about further collectability of principal or interest on the loan, even though the loan is currently performing. When loans are placed on a nonaccrual status, unpaid accrued interest is fully reversed, and subsequent income, if any, is recognized only to the extent received. The loan may be returned to accrual status if the loan is brought current, has performed in accordance with the contractual terms for a reasonable period of time, and ultimate collectability of the total contractual principal and interest is no longer in doubt.
Under GAAP we are required to account for certain loan modifications or restructurings as troubled debt restructurings (“TDRs”). In general, the modification or restructuring of a debt constitutes a TDR if we, for economic or legal reasons related to the borrower’s financial difficulties, grant a concession, such as a reduction in the effective interest rate, to the borrower that we would not otherwise consider. However, all debt restructurings or loan modifications for a borrower do not necessarily constitute troubled debt restructurings. We believe loan modifications will potentially result in a lower level of loan losses and loan collection costs than if we proceeded immediately through the foreclosure process with these borrowers.
The CARES Act, as extended by certain provisions of the Consolidated Appropriations Act, 2021, permits banks to suspend requirements under GAAP for loan modifications to borrowers affected by COVID-19 that may otherwise be characterized as TDRs and suspend any determination related thereto if (i) the borrower was not more than 30 days past due as of December 31, 2019, (ii) the modifications are related to COVID-19, and (iii) the modification occurs between March 1, 2020 and the earlier of 60 days after the date of termination of the national emergency or January 1, 2022. Federal bank regulatory authorities also issued guidance to encourage banks to make loan modifications for borrowers affected by COVID-19 and confirmed in working with the staff of the FASB that short-term modifications made on a good faith basis in response to COVID-19 to borrowers who were current prior to any relief are not TDRs.
Our level of COVID-19-related loan deferrals, after a large decline from their 2020 peak through December 31, 2020, have continued to decline. As of June 30, 2021, a total of $30.4 million of loans, representing 1.6% of total loans and 1.7% of portfolio loans, were performing under some form of deferral or other payment relief. By comparison, a total of $56.1 million of loans, representing 3.0% of total loans and 3.3% of portfolio loans, were performing under some form of deferral or other payment relief as of December 31, 2020. Included in total deferrals at June 30, 2021 are second deferrals (including deferrals where the cumulative inception to date deferral is greater than six months) of $17.6 million. Full payment deferrals at June 30, 2021 represent 5% of total deferrals while principal only deferrals represent 95% of total deferrals. We expect that the level of COVID-19 related deferrals will continue to decline in future periods.
57
The table below sets forth the amounts and categories of our nonperforming assets, which consist of nonaccrual loans, troubled debt restructurings and OREO (which includes real estate acquired through, or in lieu of, foreclosure), at the dates indicated.
| (1) | Denotes a non-GAAP measure; refer to the section “Use of Non-GAAP Financial Measures and Related Reconciliations” for additional detail |
Nonperforming Loans
Government fiscal stimulus and relief programs appear to have delayed, and possibly mitigated, any materially adverse financial impact to our loan portfolio resulting from the COVID-19 pandemic. Despite these measures, however, we believe our credit metrics could worsen and loan losses could ultimately materialize. Any potential loan losses will be contingent upon a number of factors beyond our control, such as the ability to reach a sufficient vaccination rate to achieve herd immunity, whether such vaccinations will be effective against any resurgence of the virus, including new strains such as the Delta variant, and the ability of customers and businesses to return to, and remain in, their pre-pandemic routines.
58
Nonperforming loans (“NPLs”) were $16.2 million, or 0.83% of total loans and 0.90% of portfolio loans, at June 30, 2021 compared to $19.4 million, or 1.04% of total loans and 1.14% of portfolio loans, at December 31, 2020. The $3.2 million decrease in NPLs was the result of $1.1 million in payoffs and $2.1 million of charge-offs in the first six months of 2021. $677 thousand of the first six months 2021 charge-offs were attributable to the partial charge-off of loans to one borrower where we had recorded a specific allocation of the allowance for loan and lease losses of $894 thousand at December 31, 2020.
Included in nonaccrual loans at June 30, 2021 are two TDRs with a carrying balance totaling $318 thousand that were not performing in accordance with their modified terms, and the accrual of interest has ceased. In addition, there were five TDRs totaling $1.2 million that were performing in accordance with their modified terms at June 30, 2021. During the six months ended June 30, 2021, we reported a new $104 thousand residential real estate TDR, downgraded to nonperforming a $237 thousand commercial loan TDR that previously had been performing in accordance with its modified terms, and fully charged-off a $413 thousand nonperforming commercial loan TDR.
The composition of our nonperforming loans at June 30, 2021 is further described below:
Nonaccrual Loans:
| ● | Two construction and land loans |
| ● | 45 residential first lien loans, one with a fair value of $54 thousand in the process of foreclosure |
| ● | 35 residential junior lien loans |
| ● | Two commercial real estate owner-occupied loans |
| ● | Ten commercial real estate non-owner occupied loans, (including six that were placed on nonaccrual in the second quarter 2021) |
| ● | Five commercial loans, representing three lending relationships |
Accruing Troubled Debt Restructured Loans:
| ● | Four residential real estate loans |
| ● | One commercial loan |
Nonperforming Assets
Nonperforming assets (“NPAs”) consist of NPLs and other real estate owned (“OREO”). Our NPAs were $16.8 million, or 0.65% of total assets, at June 30, 2021 compared to $20.2 million, or 0.79% of total assets, at December 31, 2020. The $3.4 million decrease in NPAs since December 31, 2020 was primarily the result of the $3.2 million decrease in NPLs. NPAs represented 0.87% of total loans and OREO at June 30, 2021.
Other Real Estate Owned
Real estate we acquire as a result of foreclosure is classified as OREO. When a property is acquired as a result of foreclosure, it is recorded at fair value less the anticipated cost to sell at the date of foreclosure. If there is a subsequent change in the value of OREO, we record a valuation allowance to adjust the carrying value of the real estate to its current fair value less estimated disposal costs. Costs relating to holding such real estate are expensed in the current period while costs relating to improving such real estate are capitalized up to the property's net realizable value until a saleable condition is reached. Costs in excess of the property's net realizable value would be expensed in the current period.
Our OREO totaled $629 thousand at June 30, 2021, a $114 thousand decrease from $743 thousand at December 31, 2020. There was no valuation expense included in noninterest expense during the first six months of 2021. For the same period of 2020, there was $257 thousand attributable to net increases in valuation allowances as the then current appraised value of OREO properties, less estimated cost to sell, was insufficient to cover the recorded OREO amount. In addition, we sold one parcel of land with a carrying balance of $144 thousand in the first six months of 2021, recording a $25 thousand loss on the sale. There were no additions to OREO during the first six months of 2021.
59
OREO at June 30, 2021 consisted of:
| ● | Several parcels of unimproved land |
| ● | Two residential 1-4 family properties |
Allowance for Loan and Lease Losses
Our allowance for loan and lease losses (the “allowance”) at June 30, 2021 was $18.3 million, a decrease of $874 thousand from $19.2 million at December 31, 2020. Net charge-offs of $1.9 million in the first six months of 2021 were partially offset by the provision for credit losses of $1.0 million in the first six months of 2021. Net charge-offs represented 0.20% of average loans (annualized); this compares to net charge-offs of $490 thousand, or 0.05% of average loans (annualized) in the first six months of 2020. Included in the first six months of 2021 net charge-offs was $677 attributable to one loan relationship where we had established an $894 thousand specific allocation of the allowance as of December 31, 2020. There were no specific allocations of the allowance at June 30, 2021.
Because the Company is a smaller reporting company under SEC rules, the allowance was determined under the incurred loss model. The $18.3 million allowance at June 30, 2021 represented 0.94% of total loans, 1.02% of portfolio loans, and 112.8% of NPLs. By comparison, the $19.2 million allowance at December 31, 2020 represented 1.03% of total loans, 1.13% of portfolio loans, and 98.6% of NPLs.
The following table sets forth activity in our allowance for loan and lease losses for the periods indicated:
| (1) | Portion attributable to loan and lease losses |
60
| (2) | Denotes a non-GAAP measure - refer to the section “Use of Non-GAAP Financial Measures and Related Reconciliations” for additional detail |
COVID-19 and Our Evaluation of the Allowance
The June 30, 2021 allowance includes our quarterly reassessment of the impact of COVID-19 on the national and local economies and the impact on various categories of our loan portfolio. Management’s methodology for the evaluation of COVID-19’s impact on the allowance, which is essentially unchanged since June 30, 2020, identified the following qualitative factors for further review:
| ● | changes in international, national, regional, and local economic and business conditions and developments that affect the collectability of the portfolio, including the condition of various market segments; |
| ● | the existence and effect of any concentrations of credit, and changes in the level of such concentrations; |
| ● | changes in the value of underlying collateral for collateral-dependent loans; and |
| ● | changes in the volume and severity of past due, nonaccrual, and adversely classified loans. |
While our allowance of $18.3 million at June 30, 2021 was down $874 thousand from December 31, 2020, it increased by $7.9 million from December 31, 2019, the last balance sheet date before the COVID-19 pandemic began, with cumulative provisions for credit losses attributable to the allowance of $10.5 million from December 31, 2019 to June 30, 2021, partially offset by cumulative net charge-offs of $2.6 million during the same period. The allowance as a percentage of total loans increased from a pre-COVID level of 0.60% at December 31, 2019 to 1.03% of total loans and 1.13% of portfolio loans at December 31, 2020 before decreasing to 0.94% of total loans and 1.02% of portfolio loans at June 30, 2021. The $7.9 million increase in the ALLL from the pre-COVID level at December 31, 2019 to June 30, 2021 was primarily attributable to the qualitative factors noted above and portfolio loan growth, partially offset by the impact of lower historical loss rates.
Our evaluation of the existence and effect of any concentrations of credit, and changes in the level of such concentrations, has focused on the identification of our exposure to industry segments that may potentially be the most highly impacted by COVID-19. The following table identifies those industry segments within our loan portfolio that we believe may potentially be most highly impacted by COVID-19. All balances are as of June 30, 2021; note that the column “Initial SBA PPP Loan Relief” presents the total balance of PPP loans received by our borrowers in each of the identified loan segments since the inception of the program. The potentially highly impacted loan segments total $338.9 million, or 17.4% of total loans, at June 30, 2021. However, the table presents each of these loan segments as a percentage of portfolio loans, which we believe is a more meaningful measure of our potentially highly impacted loan concentration. The definition of our potentially highly impacted (“PHI”) loan segments has remained unchanged throughout the pandemic.
| (1) | A non-GAAP financial measure – refer to the section “Use of Non-GAAP Financial Measures and Related Reconciliation” for additional detail |
| (2) | Includes unused lines of credit, unfunded commitments, and letters of credit |
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The PHI breakdown, by loan portfolio segment, at June 30, 2021 is as follows:
We will continue to closely monitor portfolio conditions and reevaluate the adequacy of the allowance. While our ongoing active management of the portfolio, government fiscal stimulus, COVID-19 related payment deferrals, and PPP loan assistance have reduced the short-term risk in our loan portfolio and traditional lagging indicators of delinquencies and nonperforming loans remain historically modest, we believe there still is the potential for additional risk rating downgrades and an increase in charge-offs in future periods.
Credit Risk Management and Allowance Methodology
We provide for loan and lease losses (hereinafter referred to as “loan losses”) based upon the consistent application of our documented allowance methodology. All loan losses are charged to the allowance and all recoveries are credited to it. Additions to the allowance are provided by charges to income based on various factors that, in our judgment, deserve current recognition in estimating probable losses. We regularly review the loan portfolio and make provisions for credit losses in order to maintain the allowance in accordance with GAAP.
In accordance with accounting guidance for business combinations, there was no allowance brought forward on any acquired loans in our acquisitions. For acquired performing loans, credit discounts representing the principal losses expected over the life of the loan are a component of the initial fair value and the discount is accreted to interest income over the life of the loan. Subsequent to the purchase date, the method used to evaluate the sufficiency of the credit discount is similar to originated loans, and if necessary, additional reserves are recognized in the allowance.
We recorded acquired credit impaired loans in our acquisitions net of purchase accounting adjustments. Subsequent to the acquisition date, we continue to monitor cash flows on a quarterly basis, to determine the performance of each acquired credit impaired loan in comparison to our initial performance expectations. Subsequent decreases in the present value of expected cash flows will be recorded as an increase in the allowance through a provision for credit losses. Subsequent significant increases in cash flows result in a reversal of the provision for credit losses to the extent of prior provisions or a reclassification of amount from non-accretable difference to accretable yield, with a positive impact on the accretion of interest income in future periods.
The allowance consists of two components – specific and general allowances:
| 1) | Specific allowances may be established for loans classified as Substandard or Doubtful. For loans classified as impaired, the allowance is established when the net realizable value (collateral value less costs to sell) of the impaired loan is lower than the carrying amount of the loan. The amount of impairment provided for as a specific allowance is represented by the deficiency, if any, between the underlying collateral value and the carrying value of the loan. Impaired loans for which the estimated fair value of the loan, or the loan’s observable market price or the fair value of the underlying collateral, if the loan is collateral dependent, exceeds the carrying value of the loan are not considered in establishing specific allowances; and |
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| 2) | General allowances established for loan losses on a portfolio basis for loans that do not meet the definition of impaired loans. The portfolio is grouped into similar risk characteristics, primarily loan type and regulatory classification. We apply an estimated loss rate to each loan group. The loss rates applied are based upon our loss experience adjusted, as appropriate, for the qualitative factors discussed below. This evaluation is inherently subjective, as it requires material estimates that may be susceptible to significant revisions based upon changes in economic and real estate market conditions. |
The allowance is maintained at a level to provide for loan losses that are probable and can be reasonably estimated. Our periodic evaluation of the adequacy of the allowance is based on past credit loss experience, known and inherent losses in the portfolio, adverse situations that may affect the borrower’s ability to repay, the estimated value of any underlying collateral, composition of the loan portfolio, current economic conditions and other relevant factors. This evaluation is inherently subjective as it requires material estimates that may be susceptible to significant change, including the amounts and timing of future cash flows expected to be received on impaired loans.
A loan is considered past due or delinquent when a contractual payment is not paid on the day it is due. A loan is considered impaired when, based on current information and events, it is probable that we will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. We determine the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record and the amount of the shortfall in relation to the principal and interest owed. The impairment of a loan may be measured based on the present value of expected future cash flows discounted at the loan’s effective interest rate, or the fair value of the collateral if repayment is expected to be provided by the collateral. Generally, our impairment on such loans is measured by reference to the fair value of the collateral. Interest income on impaired loans is recognized on the cash basis.
Our loan policies state that after all collection efforts have been exhausted, and the loan is deemed to be a loss, then the remaining loan balance will be charged off against the allowance. All loans are evaluated for loss potential once it has been determined by our Watch Committee that the likelihood of repayment is in doubt. When a loan is past due for at least 90 days or a deterioration in debt service coverage ratio, guarantor liquidity, or loan-to-value ratio has occurred that would cause concern regarding the likelihood of the full repayment of principal and interest, and the loan is deemed not to be well secured, the loan is moved to nonaccrual status and a specific reserve is established if the net realizable value is less than the principal value of the loan balance(s). Once the actual loss value has been determined, this amount is charged off against the allowance. Each loss is evaluated on its specific facts regarding the appropriate timing to recognize the loss.
The adjustments to historical loss experience are based on our evaluation of several qualitative factors, including:
| ● | changes in lending policies, procedures, and practices; |
| ● | changes in international, national, state and local economic and business conditions and developments that affect the collectability of the portfolio, including the condition of various market segments; |
| ● | changes in the nature and volume of the loan portfolio; |
| ● | changes in the experience, ability and depth of the lending staff; |
| ● | changes in the volume and severity of past due, nonaccrual, and adversely classified loans; |
| ● | changes in the quality of our loan review system; |
| ● | changes in the value of underlying collateral for collateral-dependent loans; |
| ● | the existence of any concentrations of credit, and changes in the level of such concentrations; |
| ● | the effect of other external factors such as competition and legal and regulatory requirements; and |
| ● | any other factors that management considers relevant to the quality or performance of the loan portfolio. |
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We evaluate the allowance based upon the combined total of the specific and general components. Generally when the loan portfolio increases, absent other factors, the allowance methodology results in a higher dollar amount of estimated probable losses than would be the case without the increase. Generally when the loan portfolio decreases, absent other factors, the allowance methodology results in a lower dollar amount of estimated probable losses than would be the case without the decrease.
Commercial and commercial real estate loans generally have greater credit risks compared to the one- to four-family residential mortgage loans in our loan portfolio, as they typically involve larger loan balances concentrated with single borrowers or groups of related borrowers. In addition, the payment experience on loans secured by income-producing properties typically depends on the successful operation of the related business and thus may be subject to a greater extent to adverse conditions in the real estate market and in the general economy. Actual loan and lease losses may be significantly more than the allowance we have established, which could have a material negative effect on our financial results.
Generally, we underwrite commercial loans based on cash flow and business history and receive personal guarantees from the borrowers where appropriate. We generally underwrite commercial real estate loans and residential real estate loans at a loan-to-value ratio of 85% or less at origination. In the event that a loan becomes significantly past due, we will conduct visual inspections of collateral properties and/or review publicly available information, such as online databases, to ascertain property values. We will also obtain formal appraisals on a regular basis even if we are not considering liquidation of the property to repay a loan. It is our practice to obtain updated appraisals if there is a material change in market conditions or if we become aware of new or additional facts that indicate a potential material reduction in the value of any individual property collateral.
For impaired loans, we utilize the appraised value or present value of expected cash flows in determining the appropriate specific allowance attributable to the loan. In addition, changes in the appraised value of multiple properties securing our loans may result in an increase or decrease in our general allowance as an adjustment to our historical loss experience due to qualitative and environmental factors, as described above.
Nonperforming loans are evaluated at the time the loan is identified as impaired, on a case by case basis, and reported at the lower of cost or net realizable value. Net realizable value is measured based on the value of the collateral securing the loan, less estimated costs to sell. The value of real estate collateral is determined based on an appraisal by qualified licensed appraisers hired by us. Appraised values may be discounted based on management’s historical experience, changes in market conditions from the time of valuation, and/or management’s expertise and knowledge of the client and client’s business. The difference between the appraised value and the principal balance of the loan will determine the specific allowance valuation required for the loan, if any. Nonperforming loans are reviewed and evaluated on at least a quarterly basis for additional impairment and adjusted accordingly.
We evaluate the loan portfolio on at least a quarterly basis, more frequently if conditions warrant, and the allowance is adjusted accordingly. While we use the best information available to make evaluations, future adjustments to the allowance may be necessary if conditions differ substantially from the information used in making the evaluations. In addition, as an integral part of their examination process, the Maryland Office of the Commissioner of Financial Regulation (“the Commissioner”) and the FDIC will periodically review the allowance. The Commissioner and the FDIC may require us to recognize additions to the allowance based on their analysis of information available to them at the time of their examination.
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Allocation of Allowance for Loan and Lease Losses
The following table sets forth the allocation of the allowance by loan category and the allowance within each category as a percent of loans in each category at the dates indicated. The allowance allocated to each category is not necessarily indicative of future losses in any particular category and does not restrict the use of the allowance to absorb losses in other categories. Loans funded through the PPP program are fully guaranteed by the U.S. government and we anticipate that the majority of these loans will ultimately be forgiven by the SBA in accordance with the terms of the program. Therefore, no allowance is attributable to this loan portfolio segment.
| (1) | Denotes a non-GAAP measure - refer to the section “Use of Non-GAAP Financial Measures and Related Reconciliations” for additional detail |
Liquidity and Capital Resources
Liquidity is the ability to meet current and future financial obligations. Our primary sources of funds consist of deposit inflows, loan repayments, advances from the FHLB, and the sale of securities available for sale. While maturities and scheduled amortization of loans and securities are predictable sources of funds, deposit flows and loan prepayments are greatly influenced by general interest rates, economic conditions and competition. Our management Asset/Liability Committee (“ALCO”) is responsible for establishing and monitoring our liquidity targets and strategies in order to ensure that sufficient liquidity exists for meeting the borrowing needs and deposit withdrawals of our customers as well as unanticipated contingencies. We believe that we have enough sources of liquidity to satisfy our short- and long-term liquidity needs as of June 30, 2021 and December 31, 2020.
We regularly monitor and adjust our investments in liquid assets based upon our assessment of:
| ● | Expected loan demand |
| ● | Expected deposit flows and borrowing maturities |
| ● | Yields available on interest-bearing deposits with banks and securities |
| ● | The objectives of our asset/liability management program |
The most liquid of all assets are cash and cash equivalents. The level of these assets is dependent on our operating, financing, lending and investing activities during any given period. At June 30, 2021 and December 31, 2020, cash and cash equivalents totaled $72.4 million and $74.6 million, respectively. Our excess liquid assets were invested in interest-bearing deposits in banks (primarily the Federal Reserve Bank of Richmond).
Our cash flows are derived from operating activities, investing activities and financing activities as reported in our statements of cash flows included in our unaudited Condensed Consolidated Financial Statements.
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Our total commitments to extend credit and available credit lines are discussed in the “Commitments and Off-Balance Sheet Arrangements” section of this MD&A, including a table presenting our comparative exposure at June 30, 2021 and December 31, 2020.
CDs maturing within one year at June 30, 2021 totaled $401.0 million, or 95.7% of total CDs and 19.8% of total deposits; by comparison, CDs maturing within one year at December 31, 2020 totaled $416.1 million, or 85.9% of total CDs and 21.1% of total deposits. If we do not retain these deposits, we may be required to seek other sources of funds, including loan and securities sales and FHLB advances. Based on current market conditions, approximately 24% of our $120.4 million in customer CDs with maturities of one year or less are at significantly higher rates than current market rates for both customer CDs and other funding sources. As a result, we do not expect to retain some portion of our customer CDs with maturities of one year or less as of June 30, 2021.
Our primary investing activity is originating loans. During the six months ended June 30, 2021 and June 30, 2020, cash used to fund net loan growth was $77.5 million and $153.1 million, respectively. Portfolio loans accounted for $101.5 million of the net loan growth while PPP loans declined by $25.0 million in the first six months of 2021. During the first six months of 2021, we purchased $54.6 million of securities to substantially offset $55.8 million of securities maturities / calls / paydowns. In the first six months of 2020, we purchased $179.7 million of securities which were partially offset $130.8 million of securities maturities / calls / paydowns.
Financing activities consist primarily of activity in deposit accounts and FHLB advances. We experienced a net increase in cash provided from deposits during the first six months of 2021 and 2020 of $50.1 million and $116.3 million, respectively. Deposit flows are affected by the overall level of interest rates, the interest rates and products offered by us and our local competitors, and by other factors, including the pandemic which caused significant growth in deposit balances held by both households and businesses.
Liquidity management is both a daily and long-term function of business management. If we require funds beyond our ability to generate them internally, borrowing agreements exist with the FHLB, which can provide an additional source of funds. FHLB advances increased to $205.0 million at June 30, 2021 compared to $200.0 million at December 31, 2020. At June 30, 2021, we had an available line of credit for $656.3 million at the FHLB, with borrowings limited to a total of $485.0 million based on pledged collateral. At December 31, 2020, we had an available line of credit for $639.7 million at the FHLB, with borrowings limited to a total of $475.0 million based on pledged collateral. Additionally, we participated in and continue to have access to borrowing availability under the FRB’s PPP Lending Facility (“PPPLF”). At June 30, 2021 and December 31, 2020 we had no outstanding PPPLF advances.
The Bank is subject to various regulatory capital requirements, including a risk-based capital measure. The risk-based capital guidelines include both a definition of capital and a framework for calculating risk-weighted assets by assigning balance sheet assets and off-balance sheet items to broad risk categories. At June 30, 2021 and December 31, 2020, we exceeded all regulatory capital requirements and are considered “well capitalized” under regulatory guidelines.
Commitments and Off-Balance Sheet Arrangements
We are party to financial instruments with off-balance sheet risk in the normal course of business to meet the financial needs of our customers. These financial instruments are limited to commitments to originate loans and involve, to varying degrees, elements of credit, interest rate, and liquidity risk. We do not believe these represent unusual risks, and management does not anticipate any losses that would have a material effect on us.
Outstanding loan commitments and lines of credit at the dates indicated were as follows:
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Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. We generally require collateral to support financial instruments with credit risk on the same basis as we do for balance sheet instruments. We generally base the collateral required on the credit evaluation of the counterparty. Commitments generally have interest rates at current market rates, expiration dates or other termination clauses and may require payment of a fee. Available credit lines represent the unused portion of lines of credit previously extended and available to the customer so long as there is no violation of any contractual condition. These lines generally have variable interest rates. Since we expect many of the commitments to expire without being drawn upon, and since it is unlikely that all customers will draw upon their lines of credit in full at any one time, the total commitment amount or line of credit amount does not necessarily represent future cash requirements. We evaluate each customer's credit-worthiness on a case-by-case basis. Standby letters of credit are conditional commitments issued to guarantee the performance of a customer to a third party.
The credit risk involved in these financial instruments is essentially the same as that involved in extending loan facilities to customers. Our reserve for potential credit losses related to these commitments, recorded in other liabilities on the unaudited Condensed Consolidated Balance Sheets, was $320 thousand at both June 30, 2021 and December 31, 2020.
Impact of Inflation and Changing Prices
Our financial statements and related notes have been prepared in accordance with GAAP. GAAP generally requires the measurement of financial position and operating results in terms of historical dollars without consideration of changes in the relative purchasing power of money over time due to inflation. The impact of inflation is reflected in the increased cost of our operations. Unlike industrial companies, our assets and liabilities are primarily monetary in nature. As a result, changes in market interest rates have a greater impact on performance than the effects of inflation.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Liquidity and Funding
The objective of effective liquidity management is to seek to ensure that we can meet customer loan requests, customer deposit maturities/withdrawals, and other cash commitments efficiently under both normal operating conditions as well as under unforeseen and unpredictable circumstances of industry or market stress. To achieve this objective, the Asset/Liability Committee of the Board (“Board ALCO”) establishes and monitors liquidity guidelines, which generally include maintaining sufficient asset-based liquidity to cover potential funding requirements and avoiding an over-dependence on volatile, less reliable funding markets. We manage liquidity at both the parent and subsidiary levels through active management of the balance sheet.
The additional information called for by this item is incorporated herein by reference to the “Liquidity and Capital Resources” section of Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” of this Quarterly Report on Form 10-Q.
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Interest Rate Risk
Interest rate risk, one of the more prominent risks in terms of potential earnings impact, is an inevitable part of being a financial intermediary. It can occur for any one or more of the following reasons: (a) assets and liabilities may mature or reprice at different times (for example, if assets reprice faster than liabilities and interest rates are generally falling, our earnings will initially decline); (b) assets and liabilities may re-price at the same time but by different amounts (when the general level of interest rates is falling, we may choose for customer management, competitive, or other reasons to reduce the rates paid on checking and savings deposit accounts by an amount that is less than the general decline in market interest rates); (c) short-term and long-term market interest rates may change by different amounts (i.e. the shape of the yield curve may impact new loan yields and funding costs differently); or (d) the remaining maturity of various assets or liabilities may shorten or lengthen as interest rates change (for example, mortgage-backed securities held in the securities available for sale portfolio may prepay significantly earlier than anticipated – with an associated reduction in portfolio yield and income – if long-term mortgage rates decline sharply). In addition to the direct impact of interest rate changes on net interest income through these categories, interest rates indirectly impact earnings through their effect on loan demand, credit losses, and other sources of our earnings.
In determining the appropriate level of interest rate risk, we consider the impact on earnings and capital of the current outlook on interest rates, potential changes in interest rates, regional economies, liquidity, business strategies and other factors. We believe that short-term interest rate risk is best measured by simulation modeling. We prepare a current base case and standard alternative scenarios at least once quarterly and report the analysis to ALCO, Board ALCO, and the Board of Directors.
The balance sheet is subject to quarterly testing for the standard alternative interest rate shock possibilities to indicate the inherent interest rate risk. Current and forward rates are shocked by +/- 100, + 200, +300, and +400 bp. Certain scenarios may be impractical under different economic circumstances. For example, due to low current market interest rates, it was not possible to calculate a market rate decrease of 200 bp because many of the market interest rates would fall below zero in that scenario. We seek to structure the balance sheet so that net interest income at risk over a twelve month period does not exceed policy guidelines at the various interest rate shock levels.
Measures of the net interest income at risk produced by the simulation analysis are indicators of an institution’s short-term performance in alternative rate environments. The measures are typically based upon a relatively brief period, usually one year, and do not provide meaningful insight into the institution’s long-term performance. Our net interest income exposure to these rate shocks at both June 30, 2021 and December 31, 2020 are presented in the following table. All measures were in compliance with our policy limits.
Estimated Change in Net Interest Income:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Change in interest rates: |
|
+ 400 bp |
|
+ 300 bp |
|
+ 200 bp |
|
+ 100 bp |
|
- 100 bp |
|
|
Policy limits |
|
-15 |
% |
-12 |
% |
-10 |
% |
-10 |
% |
-10 |
% |
|
June 30, 2021 |
|
2.2 |
% |
1.9 |
% |
1.5 |
% |
1.2 |
% |
-5.1 |
% |
|
December 31, 2020 |
|
0.0 |
% |
0.5 |
% |
1.1 |
% |
1.5 |
% |
-4.7 |
% |
Item 4. Controls and Procedures
As required by SEC rules, the Company’s Chief Executive Officer and Chief Financial Officer evaluated the effectiveness of the Company’s disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of the end of the period covered by this quarterly report on Form 10-Q. Based on this evaluation, the Company’s Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective as of June 30, 2021. Disclosure controls and procedures are controls and other procedures that are designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.
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There were no material changes in the Company’s internal control over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) during the quarter ended June 30, 2021, that have materially affected, or are reasonably likely to materially affect the Company’s internal control over financial reporting.
PART II - Other Information
Item 1. Legal Proceedings
From time to time, we may be involved in litigation relating to claims arising out of our normal course of business. As of the date of this report, we are not aware of any material pending litigation matters.
Item 1A. Risk Factors
Investing in shares of our common stock involves certain risks, including those identified and described in Item 1A. of our Annual Report on Form 10-K for the fiscal year ended December 31, 2020, as filed with the SEC on March 16, 2021, as well as cautionary statements contained in this report, including those under the caption “Forward-Looking Statements,” risks and matters described elsewhere in this report and in our other filings with the SEC.
We are providing these additional risk factors to supplement the risk factors contained in Item 1A. of our Annual Report on Form 10-K for the year ended December 31, 2020.
Risks Related to the Proposed Merger with F.N.B
Because the market price of F.N.B. common stock may fluctuate, holders of our common stock cannot be certain of the market value of the merger consideration they will receive if the merger closes.
Upon completion of the proposed Merger, each outstanding share of our common stock (except for shares owned by the Company or F.N.B., in each case other than in a fiduciary or agency capacity) will be converted into 1.80 shares of F.N.B. common stock. The market value of the merger consideration will vary from the closing price of F.N.B. common stock on the date F.N.B and the Company announced the proposed Merger and on the date the Merger is completed. Any change in the market price of F.N.B. common stock prior to the completion of the Merger will affect the market value of the merger consideration that our stockholders will receive upon completion of the Merger, and there will be no adjustment to the merger consideration for changes in the market price of either shares of F.N.B. common stock or shares of our common stock, provided that we may terminate the Merger Agreement in certain circumstances relating to a decline in the price of F.N.B. common stock relative to such price as of the date of the Merger Agreement and to a specified peer group index. For more information regarding the Merger and the Merger Agreement, please refer to the Current Report on Form 8-K that we filed with the United States Securities and Exchange Commission on July 13, 2021.
Stock price changes may result from a variety of factors, including general market and economic conditions, changes in F.N.B’s and the Company’s businesses, operations and prospects and regulatory considerations, many of which factors are beyond our control. Therefore, holders of our common stock will not know the market value of the consideration that our stockholders will receive at the effective time of the proposed Merger, if it is completed.
The market price of F.N.B. common stock after the Merger may be affected by factors different from those affecting the shares of our common stock or F.N.B. common stock currently.
If the proposed Merger is completed, holders of our common stock will become holders of F.N.B. common stock. F.N.B.’s business differs from that of the Company. Accordingly, the results of operations and financial condition of the combined company and the market price of F.N.B. common stock after the completion of the proposed Merger may be affected by factors different from those currently affecting the independent results of operations and financial condition of each of F.N.B. and the Company.
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We are subject to business uncertainties and contractual restrictions while the Merger with F.N.B. is pending.
Uncertainty about the effect of the proposed Merger with F.N.B. on employees and customers may have an adverse effect on us. These uncertainties may impair our ability to attract, retain and motivate key personnel until the Merger is completed, and could cause customers and others that deal with us to seek to change existing business relationships. Retention of certain employees by us may be challenging while the Merger is pending, as certain employees may experience uncertainty about their future roles with the combined company. If key employees depart because of issues relating to the uncertainty and difficulty of integration or a desire not to remain with us, our business could be harmed. In addition, subject to certain exceptions, we have agreed to operate our business in the ordinary course prior to the closing, and we are restricted from making certain acquisitions and taking other specified actions without the consent of F.N.B. until the Merger is completed. These restrictions may prevent us from pursuing attractive business opportunities or strategic transactions that may arise prior to the completion of the Merger.
The proposed Merger may distract our management from their other responsibilities.
The proposed Merger could cause our management to focus their time and energies on matters related to the Merger that otherwise would be directed to our business and operations. Any such distraction on the part of our management, if significant, could affect our ability to service existing business and develop new business and adversely affect our business and earnings before the Merger, or the business and earnings of the combined company after the Merger.
Failure to complete the proposed Merger could negatively impact the Company.
If the proposed Merger is not completed for any reason, including as a result of our stockholders’ failure to approve the Merger Agreement, there may be various adverse consequences and we may experience negative reactions from the financial markets and from our customers and associates. For example, our business may have been impacted adversely by the failure to pursue other beneficial opportunities due to the focus of management on the Merger, without realizing any of the anticipated benefits of completing the Merger. Additionally, if the Merger Agreement is terminated, the market price of our common stock could decline to the extent that current market prices reflect a market assumption that the Merger will be beneficial and will be completed. We also could be subject to litigation related to any failure to complete the Merger or to proceedings commenced against us to perform our obligations under the Merger Agreement. If the Merger Agreement is terminated under certain circumstances, we may be required to pay a termination fee of $15.0 million to F.N.B.
Additionally, we have incurred and will continue to incur substantial expenses in connection with the negotiation and completion of the transactions contemplated by the Merger Agreement, as well as the costs and expenses of preparing, filing, printing and mailing a proxy statement/prospectus. If the Merger is not completed, we would have to pay these expenses without realizing the expected benefits of the Merger.
The shares of F.N.B. common stock to be received by holders of our common stock as a result of the proposed Merger, if it is completed, will have different rights from the shares of our common stock.
If the Merger is completed, holders of our common stock will become holders of F.N.B. common stock and their rights as stockholder will be governed by Pennsylvania law and the governing documents of F.N.B. The rights associated with F.N.B. common stock are different from the rights associated with our common stock.
Regulatory approvals may not be received, may take longer than expected or may impose conditions that are not presently anticipated or that could have an adverse effect on the combined company following the proposed Merger.
Before the proposed Merger and the bank merger may be completed, various approvals, consents and non-objections must be obtained from the Board of Governors of the Federal Reserve System, the Office of the Comptroller of the Currency, the Maryland Office of the Commissioner of Financial Regulation and other regulatory authorities. In determining whether to grant these approvals, the regulators consider a variety of factors. These approvals could be delayed or not obtained at all, including due to any or all of the following: an adverse development in either party’s regulatory standing, or any other factors considered by regulators in granting such approvals; governmental, political or community group inquiries, investigations or opposition; changes in legislation or the political environment, including as a result of Congressional leadership and regulatory agency leadership; or impacts and disruptions resulting from the COVID-19 pandemic.
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The approvals that are granted may impose terms and conditions, limitations, obligations or costs, or place restrictions on the conduct of the combined company’s business or require changes to the terms of the transactions contemplated by the Merger Agreement. There can be no assurance that regulators will not impose any such conditions, limitations, obligations or restrictions or that such conditions, limitations, obligations or restrictions will not have the effect of delaying the completion of any of the transactions contemplated by the Merger Agreement, imposing additional material costs on or materially limiting the revenues of the combined company following the Merger or will otherwise reduce the anticipated benefits of the Merger. In addition, there can be no assurance that any such conditions, limitations, obligations or restrictions will not result in the delay or abandonment of the Merger. Additionally, the completion of the Merger is conditioned on the absence of certain orders, injunctions or decrees by any governmental entity of competent jurisdiction that would prohibit or make illegal the completion of any of the transactions contemplated by the Merger Agreement.
In addition, despite the parties’ commitments to use their reasonable best efforts to comply with conditions imposed by regulators, under the terms of the Merger Agreement, neither party will be required to take actions or agree to conditions that would reasonably be expected to have a material adverse effect on the combined company after giving effect to the Merger, after the effective time.
If the proposed Merger is completed, Holders of our common stock will have a reduced ownership and voting interest in the combined company after the Merger and will exercise less influence over management.
Holders of our common stock currently have the right to vote in the election of the board of directors and on other matters affecting us. When the Merger is completed, each of our stockholders will become a shareholder of F.N.B., with a percentage ownership of F.N.B. that is significantly smaller than such stockholder’s current percentage ownership of the Company. Based on the number of shares of F.N.B. and our common stock outstanding as of June 30, 2021, and based on the number of shares of F.N.B. common stock expected to be issued in the Merger, the former holders of our common stock, as a group, are estimated to own 10% of the outstanding shares of common stock of the combined company immediately after the Merger and current holders of F.N.B. common stock as a group are estimated to own approximately 90% of the outstanding shares of common stock of the combined company immediately after the Merger. Because of this, holders of our common stock may have less influence on the management and policies of the combined company than they now have on our management and policies.
Various factors, including potential stockholder litigation, could prevent or delay the completion of the proposed Merger or otherwise negatively impact our business and operations.
The completion of the Merger is subject to closing conditions. Various factors, including potential stockholder litigation, could prevent or delay the completion of the proposed Merger or otherwise negatively impact our business and operations. Our stockholders may file lawsuits against us and/or the directors and officers of the Company in connection with the Merger. One of the conditions to the closing is that no order, injunction or decree issued by any court or agency of competent jurisdiction or other legal restraint preventing the consummation of the Merger be in effect. If any plaintiff were successful in obtaining an injunction prohibiting us from completing the Merger pursuant to the Merger Agreement, then such injunction may delay or prevent the effectiveness of the Merger. If a lawsuit is filed, we may incur costs in connection with the defense or settlement of any such lawsuits, which could have an adverse effect on our financial condition and results of operations and could prevent or delay the completion of the Merger.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
None
Item 3. Defaults Upon Senior Securities
None
Item 4. Mine Safety Disclosures
Not applicable
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Item 5.Other Information
None
Item 6.Exhibits
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Exhibit No. |
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Description |
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Incorporated by Reference to, or Filed Herewith, as Noted: |
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31.1 |
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Filed herewith |
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31.2 |
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Filed herewith |
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32 |
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Filed herewith |
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101 |
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Extensible Business Reporting Language (“XBRL”) |
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Filed herewith |
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101.INS |
XBRL Instance File |
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101.SCH |
XBRL Schema File |
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101.CAL |
XBRL Calculation File |
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101.DEF |
XBRL Definition File |
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101.LAB |
XBRL Label File |
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101.LAB |
XBRL Label File |
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104 |
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Cover Page Interactive Data File (the cover page XBRL tags are embedded within the Inline XBRL document) |
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Signatures
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
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HOWARD BANCORP, INC. |
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(Registrant) |
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August 9, 2021 |
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/s/ Mary Ann Scully |
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Date |
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Mary Ann Scully |
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Chairman and Chief Executive Officer |
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August 9, 2021 |
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/s/ Robert L. Carpenter, Jr. |
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Date |
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Robert L. Carpenter, Jr. |
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Chief Financial Officer |
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